Revolving Line Of Credit:
What You Need To Know

What Is a Revolving Line of Credit?

A revolving line of credit is a recurring borrowing arrangement between a customer and a lender. Lenders offer credit accounts that allow you to continually borrow money against the same credit line.

Once your account is open, you can repeatedly access available funds against it without having to reapply.

Have a financial discussion to learn whether a revolving line of credit is right for you.

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The creditors limit their risk by setting a maximum amount you can borrow: your credit limit. They may also monitor your account and creditworthiness to determine if they should raise or lower your credit limit.

What Is Revolving Credit?

A revolving line of credit is an example of revolving credit, but is not the only one. Revolving credit is an agreement that permits an account holder to borrow money repeatedly up to a set credit limit and repay all or part of the balance owed monthly.

Thus, payments replenish the available balance with the exception of interest and fees charged to the account.

Another common example of a revolving line of credit is a home equity line of credit (HELOC), and of course, credit card accounts are included  as revolving credit.

How Does Revolving Credit Work?

When you're approved for a revolving credit account, like a credit card, the lender will set a credit limit.

The assigned credit limit is the maximum amount of money that you can charge to the account.

When you charge a purchase to your credit card, you'll have less revolving credit available at that time.

Then, when you make a payment, your available credit will typically increase, though your limit will remain the same. You can choose to pay off the balance in full at the end of each billing cycle or you can carry over a balance from month to month.

This allows you to keep “revolving" the balance, as opposed to installments loans which have a set number of preprogrammed payments (see below).

At any rate, you are still required to make the minimum monthly payment to keep the account in good standing.

Revolving Line of Credit vs. Installment Loan

Revolving credit differs from an installment loan, which requires a fixed number of payments including interest over a set period of time.

Revolving credit requires only a minimum payment plus any fees and interest charges, with a minimum payment based on the current balance.

Revolving credit has, potentially, a stronger impact on an individual's credit score than installment loans, which are less prejudicial to an individual's credit rating, assuming all payments are made on time.

Revolving credit implies that a business or individual is pre-approved for a loan. A new loan application or credit check do not need to be completed for each instance involving a new use of revolving credit.

An installment loan is set once and requires a new agreement for any fundamental changes to the original agreement, including payment amounts, dates, etc.

Examples of Revolving Credit Accounts

You can open and use different financial products that will give you access to a revolving line of credit. Common examples include:

  • Unsecured and secured credit cards

  • Unsecured personal and business lines of credit

  • Secured line of credit

  • Home equity line of credit (HELOC)

  • Unsecured and secured credit cards

Credit cards are one of the most popular ways to obtain a revolving credit line. You can use a credit card to make a purchase, balance transfer, or cash advance against your card’s credit limit.

Each month, you have to make a minimum payment to avoid late fees and hurting your credit score, the rating that lenders check to determine if you are likely to pay your bills when they’re due.

If you pay your balance in full each month before the billing cycle is exceeded, you don’t pay interest on your purchases.

Many credit cards are unsecured credit lines, and you qualify based solely on your creditworthiness, which is measured by various factors, including your income, debts, and credit score.

If you have a low credit score, you may opt for a secured credit card instead. This involves opening a credit account by sending the card issuer a refundable security deposit. The deposit helps limit the issuer’s risk and determines your card’s credit limit.

Unsecured Personal and Business Lines of Credit

With an unsecured personal line of credit or business line of credit, your eligibility, rates, terms, and credit limit can depend on your personal or business credit scores and on the lender.

Similar to a credit card, you’ll have a maximum credit limit. However, unlike credit cards where no interest is charged until after the billing cycle, interest accrues on a line of credit as soon as you activate a withdrawal - which is a loan against the credit line.

Depending on the lender, there may also be minimum withdrawal requirements and monthly or annual maintenance fees to keep your account open.

With some credit lines, each loan you take out has its own repayment amount and a fixed repayment period. You can take out additional loans as you pay down your balance and free up available credit.

Other lines of credit have an initial withdrawal period, which is when you can make withdrawals and make minimum or interest-only payments.

Secured Lines of Credit

These are lines of credit that require you to offer the lender collateral to open your account. A home equity line of credit (HELOC) is a popular option, but you can use assets other than your home as collateral as well.

For example, individuals can have securities-backed lines of credit where a percentage of their assets is used as collateral. Business owners may use their businesses’ assets to open a secured business equity line of credit.

These secured lines of credit can be easier to qualify for thanks to the collateral's value, and may offer lower interest rates than unsecured credit lines. However, be warned that you could lose your valuable collateral if you fail to repay the loan.

Advantages and Disadvantages of Revolving Credit

The main advantage of revolving credit is that it allows borrowers the flexibility to access money when they need it.

Many businesses small and large depend on revolving credit to keep their access to cash steady through seasonal fluctuations in their costs and sales.

As with consumers, rates for business lines of credit vary widely depending on the credit history of the applicant and whether the line of credit is secured with collateral.

Both individuals and businesses are able to keep their borrowing costs minimal by paying down their balances to zero every month.

The main drawback is that revolving credit can be a risky way to borrow if not managed prudently.

A contributing part of your credit score calculation is your credit utilization rate (30%). A high credit utilization rate can have a negative impact on your credit score. Most credit experts recommend keeping this rate at 30% or below.

Difference Between Revolving and Non-revolving Credit

The major difference between revolving and non-revolving credit is whether the credit account can be used on a recurring basis. But there are a few other differences that you should be aware of.

Non-revolving credit is also known as installment credit. Some common types of installment credit include auto loans, mortgage loans and student loans.

Open ended vs. closed ended: With revolving credit, you can use the line of credit repeatedly - up to a certain credit limit - for as long as the account is open.

With non-revolving credit, you can borrow the amount only once. And the account is closed permanently after it is paid off.

Revolving credit may have a higher interest rate than non-revolving credit has.

With revolving credit, your minimum payment changes depending on your balance. With non-revolving credit, you’ll likely owe the same amount each billing cycle.

Non-revolving credit accounts are generally repaid in regular, equal payments - or installments - over a specific period of time. And in some cases, there might be a penalty for paying off the installment loan ahead of schedule.

Revolving credit gives you more flexibility. A credit card, for example, can be used for a wide variety of purchases. Many non-revolving credit agreements are for one specific purpose, like buying a car or a house.

The specifics of how your revolving or non-revolving credit accounts work can vary. And it’s always a good idea to make sure you understand the terms of any debt or credit agreement you get yourself into.

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