In a nutshell, a line of credit is an agreed-upon amount of money that you can borrow from a financial institution such as a bank or credit union. You can draw from the line of credit when you need it, up to the maximum amount. You’ll pay interest on the amount you borrow. Editorial Note: Intuit Credit Karma receives compensation from third-party advertisers, but that doesn’t affect.
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So you’ve got a shiny new line of credit, but you’re not quite sure what to do with it. Should you tap into it right away, or let it sit there untouched? What happens if you don’t use your line of credit?
The answer, as with most things in finance, is: it depends.
The Good News: No Interest, No Payments (Usually)
The good news is that unlike a traditional loan you don’t accrue interest on a line of credit until you actually use it. This means you can keep it as a financial safety net, ready for emergencies or planned expenses, without incurring any interest charges.
Plus, you typically don’t have to make any payments until you start drawing funds. This can be a huge relief for homeowners who want access to a credit line without the immediate burden of repayment.
The Not-So-Good News: Potential Costs and Fees
Although it can be beneficial to have an unused line of credit, there are a few possible expenses to be mindful of:
- Inactivity fees: Some lenders may charge inactivity fees if you don’t make minimum withdrawals from your line of credit. These fees are usually specified in your contract, so be sure to read the fine print.
- Cancellation fees: If you decide you no longer need your line of credit and want to close it early, you might encounter cancellation fees. These fees vary from lender to lender, so it’s essential to review your contract before making a decision.
- Application fees and closing costs: Most lenders charge application fees and closing costs when you set up a line of credit. These costs can include appraisal fees, title search fees, and other administrative charges. So, if you open a line of credit but never use it, you could be paying for these fees for virtually no reason.
The Bottom Line: Weigh the Pros and Cons
The choice of whether or not to use your credit line is ultimately a personal one. The best option for you will rely on your unique situation; there is no right or wrong answer.
Here are some things to consider:
- Do you have a financial need for the funds? If you have an unexpected expense or a planned purchase that you can’t afford to pay for upfront, using your line of credit could be a good option.
- Can you afford the potential costs? Be sure to factor in any potential fees and charges before deciding to open a line of credit.
- Are you comfortable with the risk? Lines of credit can be tempting, but it’s important to remember that you’ll have to repay the money you borrow, plus interest.
- Do you have a plan to repay the debt? Before you use your line of credit, make sure you have a plan for how you’ll repay the debt. This will help you avoid getting into financial trouble.
It’s wise to consult a financial advisor if you’re not sure whether to use your line of credit. They can assist you in balancing the advantages and disadvantages and selecting the course of action that will work best for your circumstances.
What’s the difference between a credit card and a line of credit?
Credit cards are similar to lines of credit. Since both are revolving credit lines, you can take out as much as you want from them, pay them back (along with any interest you owe), and then borrow money again.
However, lenders offer credit cards and credit lines as two distinct products, and there are some important distinctions between the two.
There is no draw period associated with credit cards; you can use them for as long as the account is open and in good standing. Many have rewards programs, and if your card has a grace period and you can pay off your balance in full each month, you may be able to avoid paying interest altogether. This means that credit cards may be a better choice for everyday spending, if used responsibly.
The drawback of credit cards is that you might have to pay more to maintain a balance on one because they might have higher interest rates than lines of credit. Additionally, they might have lower limits than personal credit lines, and if you want to use a credit card cash advance to actually withdraw cash, you might have to pay hefty fees and annual percentage rates.
How do lines of credit work?
First, let’s talk about the options you have when you need to borrow money. Broadly speaking, you can usually apply for either a loan or a line of credit. When you take out a loan, you receive the money all at once and, regardless of when you use it, you have to pay interest right away.
A line of credit, on the other hand, provides you with a fixed amount of money that you can borrow as needed. But you don’t pay any interest until you actually borrow.
There are business lines of credit, but we’ll look at lines of credit for personal use here.
Most personal credit lines are unsecured, which means you can obtain one without pledging any collateral. Secured lines of credit are backed by collateral, such as your house or a savings account.
Higher credit scores may make you eligible for a lower annual percentage rate when you apply for a line of credit. Certain credit lines might have annual fees or borrowing limits in addition to other costs.
Following your approval for the line of credit, you will have a predetermined window of time (referred to as the “draw period”) during which you can withdraw funds from the account. A draw period can last several years. When you’re ready to borrow the money, the bank may give you special checks, a card to use, or transfer the funds to your checking account.
Interest typically begins to accrue as soon as you borrow money from your line of credit, and you’ll be required to make minimum payments, the amount of which will be added back to your available line of credit as you make them. However, after your draw period is over, you’ll go into the repayment period, during which you’ll have a deadline to settle any outstanding debt. Keep in mind, making only minimum payments may cost you more in interest in the long run.
HELOC Explained (and when NOT to use it!)
FAQ
Can I have a line of credit and not use it?
Can a line of credit expire?
How does an unused line of credit affect credit score?
Should I close unused lines of credit?
What happens if I don’t use my line of credit?
If you don’t use your line of credit and the account sits dormant for a long period of time, your bank may close your account. This could cause your score to decrease because the loss of the account would shrink your available credit (and thus negatively affect your credit utilization).
What happens if I don’t use my available credit?
After you’re approved and you accept the line of credit, it generally appears on your credit reports as a new account. If you never use your available credit, or only use a small percentage of the total amount available, it may lower your credit utilization rate and improve your credit scores.
What happens if I don’t pay back my personal line of credit?
Not paying back your Personal Line of Credit may also negatively impact your credit score and history, which could impact your ability to get credit in the future. You may also be liable for collection costs in some states. Don’t see what you’re looking for?
Should I accept a line of credit if I don’t need it?
Unused lines of credit typically improve your utilization rate, which would improve your credit score. However, HELOCs are a type of revolving credit, just like a credit card. Should you accept a line of credit if you don’t need it? Consider accepting a line of credit from your bank if you only have a credit card.