Transferring Credit Card Balance to Line of Credit
Should You Use a Line of Credit to Pay Off Credit Card Debt? How to take out a line of credit to pay off credit card debt. It’s usually easiest to get a line of credit from your primary bank. They’ll ask for a paystub or last year’s Notice of Assessment to verify your income, and also run a credit check. To qualify for a low-interest line of credit, you want to have the highest credit score possible, and for your credit report to be free of any errors or debts in collections. If you’re not sure where you stand, you can check your credit score and get your credit report for free.
Ideally, you want to get a line of credit to pay off credit card debt that has two things:
- a limit greater than the total amount of credit card debt you owe. So if you have 4 credit cards with balances of $2500, $3400, $600, and $7000, you’ll need a line of credit with a limit of at least $13,500 to consolidate your debt.
- an interest rate at least 5% less than your credit card interest rate. If you can get a line of credit with a single-digit interest rate (<10%), then that’s excellent, but any interest rate below the average credit card interest rate of 20% will help you out.
Reduce the carrying cost of your debt
This is the main reason it’s great to use a line of credit to pay off credit card debt. Typically, lines of credit have much lower interest rates than credit cards, which will reduce the overall carrying cost of your debt. For example, a $5,000 balance on a credit card at 20% will cost you $1,000 per year in interest. On a line of credit of 6%, the same balance it will only cost you $300 in interest. The $700 you save not paying interest can help you actually make a dent in your debt and start paying it down.
To qualify for the lowest interest rate possible, you need to have the highest credit score possible. You can check your credit score and get your credit report for free with Borrowell. Reducing the carrying cost of your debt not only lowers the total amount you pay, it gets you out of debt faster.
If you’re making payments of $150 per month towards your $5,000 debt, on a credit card at 20% it will take you almost four and a half years to pay off. On a line of credit at 6%, the same $150 payment against the same $5,000 debt will get you to debt free after only 3 years.
However, to actually reap the benefits of using a low-interest line of credit to manage your credit card debt, you have to avoid racking up new debt on the credit card once you pay it off.
Lower your credit card limits
The best way to protect yourself from ever finding yourself in the situation you’re in ever again is is to lower the limit on your credit cards. If your credit limit is $5,000, call your bank and have it reduced to $2,000. This is enough of a credit limit to enjoy the convenience of a credit card, without putting yourself at risk of accumulating a debt balance that you can’t pay off.
Stop using credit cards
The other step you can take is to stop using the credit card entirely. Leave it at home when you go out, and only use cash or your debit card to make purchases. It might seem extreme to give up using a credit card, but it’s worthwhile to spend the next few months learning how to live comfortably within your means so you’re not tempted to use credit to fill the gaps in your spending again.
Credit cards are awesome for convenience and rewards, but you can get all the persk without any of the pain if you use my favorite budgeting & saving tool, Koho. Koho works like a prepaid Visa card, which means you can use it anywhere Visa is accepted, but you can’t actually spend money you don’t have. The best part? You’ll earn 0.5% cash-back on every dollar you spend.
Don’t max out your line of credit
Banks are overly generous with credit, and it’s because doing so benefits them, not you. Do not borrow more than you need. If you’re offered a $25,000 line of credit but only need $10,000, then decline the rest. You only want to use a line of credit to pay off credit card debt, not add to your debt!
Once you have your line of credit, do not rack up the entire limit.
Just because you have credit doesn’t mean you have to use it all. In fact, keeping your debt balances low and leaving yourself with lots of available credit is a great way to boost your credit score.
Always make more than the minimum payment
Always make the effort to make more than the minimum monthly payment on your line of credit, even if the interest rate is so tantalizingly low you’re certain you can carry the debt forever without any real consequence. Being in debt a second longer than you have to is always bad.
Remember, credit is not “free money” and even small balances can be difficult to pay off, so approach any with caution. However, when used responsibly credit can be a powerful tool to help you achieve your financial goals, and shouldn’t be avoided — particularly when it can actually help you get out of debt faster!
How to Use a Line of Credit to Your Advantage?
In times of financial hardship or an emergency situation, you may need assistance when it comes to keeping up with bills. Maybe your car broke down and you don’t have the thousands it will take for the required repairs. Or, perhaps your roof sprung a pricey leak and you need a new one right way. Maybe you went to the doctor to find out that, all of a sudden, you need pricey medical testing or a procedure that will require weeks of missed work.
In any of these cases, a loan or line of credit could help you get through to the other side. But, what kind of funding is best when you really just need cash for an emergency?
Here’s the good news: There are lots of funding options available, including credit cards and even payday loans. But those options usually come with a high price, which means they may keep you in debt much longer than you’d like due to the outrageous interest rates and fees they charge.
If you want a smarter loan option, consider the lesser-used line of credit, which has some great benefits for consumers. Banks don’t usually advertise lines of credit, but they can be a much more budget-friendly solution than the high interest rates that come with a credit card.
Here’s how to use a line of credit to your advantage, and what you need to know.
What Is a Line of Credit?
A line of credit, or LOC, is a type of loan that banks extend allowing you to borrow, or draw down, money for a particular purpose. For instance, home equity lines of credit (HELOC) are usually used for remodeling your residence.
If you’re self-employed with cash-flow problems, or want to start a business but don’t have the collateral for inventory, you may want to think about a line of credit to give you the leverage you need.
A line of credit differs from a traditional loan, where you receive an influx of cash and immediately start making payments on the balance. A LOC only requires you to pay interest and fees on the portion of funds you borrow.
If your line of credit is for $10,000 and you don’t withdraw any money, you won’t have to pay any interest. But the entire $10,000 balance is available for qualified purchases at any time. You only make payments on money you’ve actually withdrawn.
How Does a Line of Credit Work?
A line of credit works in a similar way to a credit card, in that you have the freedom to use the funds when it best suits you. The only advantage to a LOC versus a credit card, though, is that the interest rate is usually considerably lower.
In addition, a line of credit usually comes with a much higher account limit for spending, whereas a credit card’s limit is much lower.
You will also receive a monthly statement showing your balance, your minimum payment due, and summary of interest and fees. As long as you draw down the funds, you’ll be required to repay the money each month, as agreed upon with your financial institution.
Different Types of Lines of Credit
There are many different reasons why you may want to apply for a LOC, depending on where you are financially. It can be used to help bridge the financial gap, pay for an emergency, or even fund your child’s college education.
In many cases, a line of credit is a much cheaper option than applying for a personal loan or using a credit card for large purchases.
Secured and Unsecured Lines of Credit
Lines of credit fall into two overarching types:
- Secured: A secured LOC is backed by collateral, such as a home, vehicle, boat, or other valuable asset you own. This type of loan usually comes with a much lower interest rate, since it’s less of a risk for the lender.
- Unsecured: This is not backed by collateral, making it a bit more difficult to apply for, as it has higher interest rates to account for the greater risk.
Now that you understand the types of LOCs available, you can determine the best category based on why you need the money.
Personal Lines of Credit
If it’s attached to your personal property, making it a secured loan, the interest and fees will be quite a bit lower. If it’s not backed by any sort of collateral, making it an unsecured loan, you’ll like pay a much higher interest rate.
You can apply for a personal LOC at the same institution where you have a checking account (in fact, the account is usually required), where you can then make regular transfers into your account, or even write checks for purchases directly from the line of credit.
For the most part, you are free to use the money how you choose, but since your assets are held as collateral, they may be seized in the event you can’t pay off the balance in time.
Home Equity Lines of Credit
As mentioned above, a HELOC allows you access to the funds for home improvement projects, or repairs and emergency fixes. It’s usually backed by your home’s value and therefore considered a secured line of credit. Because of this, HELOCs generally have very low interest rates since there’s less risk to the lender.
A home equity line of credit can be applied for with your mortgage lender, or other financial institution, and comes with a set timeline for when you can withdraw the money. This “draw term” usually lasts 10 years before the line of credit will be called on for full payment.
Business Lines of Credit
When you’re ready to take your business to the next level, this may be a smart option. This type of loan is designed to fund short-term finance needs, like purchasing inventory, paying operating expenses, or buying new equipment.
If your business is just starting out, you may want to use a business LOC to create more consistent cash flow to tackle those unpredictable costs. A business line of credit is usually secured by assets owned by the business, such as inventory or equipment.
How to Properly Apply for a Line of Credit
When applying for any type of line of credit, lenders will look to see how creditworthy you are, which is proven by your ability to repay the loan and your credit score.
If you have a good credit score, your interest rate will be much lower, and your borrowing limit will be much higher. As you’re preparing to apply for a LOC, take these steps:
Review Your Credit Report
Do you know what your credit score is? When was the last time you checked your credit report? Are there any errors that need to be fixed, or do you have an account that’s overdue?
Before heading to your bank, you need to know what your overall credit history looks like so you can be prepared. You’ll want to check your report with all three of the most popular credit bureaus when possible (since you don’t which one a particular bank will be looking at): Experian, TransUnion, and Equifax.
All U.S. citizens are allowed — by law — to have access to their credit information for free on an annual basis. Simply go to annualcreditreport.com and input your information. You’ll want to print this report to take along with you when applying for a line of credit.
Gather Your Financial Records
Beware that financial institutions will likely look at your income, where you live, and what kind of job you have, along with any other factors that could benefit (or deter) you from being approved for the loan. So you’ll need copies of past tax returns, employer information, investments, and bank statements when applying.
If you’re applying for a HELOC or business LOC, have your taxes all been paid? Are your mortgage payments up to date? Do you have all your permits and licenses? Are you registered correctly with the local and federal governments?
Make sure you check all these off before applying, and that you have your financial paperwork in order.
Compare Terms and Rates With Other Lenders
Don’t settle on just one financial institution when applying for a line of credit. Do research and check the rates and terms with other lenders so you can get the best deal possible.
Will your loan have a fixed or variable interest rate? What are the payment schedules, and what kind of fees are attached? Can you get approved for a higher LOC balance at your local bank, versus going to a new one?
With a HELOC, your limit is based on a calculation involving the market value of your home. Subtracting what you still owe on your mortgage from about 75% to 80% of the market value of your home will determine your limit.
In other words, take what your house is worth, multiply that by about 80%, subtract what you still owe, and you’ll likely qualify for that amount.
Consider This Before Opening a Line of Credit
If you decide you don’t want a line of credit after applying for a HELOC account, the federal Truth in Lending Actallows you to change your mind up to three days after you set it up. And if you don’t feel comfortable with taking out a personal or business LOC, then don’t push the issue.
Wait until you’re more financially stable and can afford to repay the funds you use. In some instances, you’ll need to bring the balance of the LOC account to zero at the end of each year.
Depending on the agreement signed with your financial institution, you may be required to pay back the balance of the line of credit at any time the bank chooses. When a bank “calls” your loan, this means your full balance is due and your line of credit will be reduced. What makes a bank request your loan payable on demand?
There are several factors, including: times of economic uncertainty; if you have a poor repayment history; risky spending behavior; a change in your income; or any other red flags that pop up.
It’s important to budget your funds to cover any annual lump-sum payments, and to not use more credit than is absolutely necessary. So be cautious when taking down money from a line of credit, as you want to keep a manageable balance that you can pay back relatively quickly.
Taking out a line of credit can be a smart move in order to recover from a financial hardship, or to start a business, or invest in an upcoming opportunity. Just be sure you have all the facts, and understand the risks before applying for one.
Alternatives to a Line of Credit
While you my be thinking a line of credit is ideal for emergency expenses, there’s one other option to consider that could help you avoid fees and interest altogether. With a balance transfer credit card that offers 0 percent APR for up to 21 months, you can avoid interest on purchases and surprise expenses and potentially pay down your debt faster.
The key to making this option work is finding a balance transfer card that offers 0 percent APR on purchases and not just balance transfers. Once you sign up for a card and receive it in the mail, you’ll also want to make sure you can afford to pay back the entire balance you charge during your card’s 0 percent APR offer. If you don’t, any remaining balance at the end of the offer will begin incurring the standard credit card interest rate, which could be very high.
Before you choose a 0 percent APR credit card, it’s important to read the fine print and understand the offer in its entirety. Make sure you know how long you will avoid paying interest, whether the card charges any fees, and any other important details to be aware of.
Some cards offer rewards on purchases as well, which means you could be earning at least 1 percent cash back for the purchases you make at 0 percent APR. While rewards are always a good thing, make sure they don’t entice you into overspending or borrowing more than you can afford to pay back.
Lines of credit can be a smart option if you’re struggling to keep up with your bills, but there are other options to consider as well. At the end of the day, the best thing you can do is to take a holistic look at your financial situation then compare loan options based on your unique needs. Borrow only what you can afford to pay back and choose a loan with the lowest costs possible. If you borrow money the right way and err on the side of caution, you will thank yourself later.