A line of credit can help you bridge a financial gap. There are a few different options to consider and research before deciding if a line of credit or a loan is the right financial decision for you.
Discuss time vs. money
When considering a line of credit, start by thinking of time vs. money. A line of credit should be used as a borrowing vehicle for a short period of time, such as a year or less. With a line of credit, you want to try to pay back the debt within a year because the interest rates are variable, meaning they will fluctuate with the market. If you need a longer payback period, talk to your financial advisor about different options such as a loan with a fixed interest rate.
In addition, consider how you want to use the money so you can make sure your assets are appropriately financed based on your goals. It is important to consider all the debt you carry, such as credit cards and loans, so you can determine how quickly you can pay back a line of credit and how it might impact your overall financial picture.
Different line of credit options
There are two main types of lines of credit that you can explore. The first is a home equity line of credit (HELOC), and the second is an assets under management line of credit.
A HELOC is a line of credit a lender provides you based on the value of your home, the amount of equity you have in it and your credit score. Most HELOCs have a variable interest rate. This means your rate, and, therefore, your minimum payment requirement, are subject to change, which can make it trickier to budget.
There are several different ways you can use a HELOC to renovate your home and make improvements to enjoy now or an investment in your home’s future. Either way, this line of credit option can be a tool to build additional equity in your real estate.
The second main line of credit is secured by your financial assets. For this lending option, the bank will determine how much equity you have in your stock and or bond portfolio and determine how much to lend to you. A line of credit secured by your financial asset can create liquidity against your stock portfolio that you don’t want to sell yet for tax reasons or because of you can get a stronger return if you leave the money in the market longer. There are additional things to explore with this option like capital gains tax, which could make your repayment expensive.
Why not just use a credit card?
You can use a credit card to pay for a large purchase but be mindful of the interest rate on your card and your credit limit. Ideally, you want to charge items to your credit card that you can pay off every single month to avoid paying high interest. A line of credit could have a lower interest rate than a credit card, making your repayments easier to fit in your budget.
A financial advisor can look at your finances and help you understand if a line of credit is the best vehicle to reach your next financial goal.
From paying for college to developing savings strategies, learn how to be more financially prepared in the years ahead by exploring the Plan and Invest playlist on the UMB Financial Education Center.
