What is a personal line of credit? How borrowing, interest, and repayment work.

A personal line of credit is a flexible borrowing tool that gives you a set credit limit you can draw from when you need it. It’s useful when expenses are irregular or hard to predict, like ongoing home repairs or inconsistent freelance income.

But that flexibility cuts both ways.

“Personal lines of credit typically carry higher interest rates than secured loans like mortgages or HELOCs,” said Craig Toberman, CFP and partner at Toberman Becker Wealth in St. Louis. “Rates often range from 10 to 20% APR plus potential annual fees.”

Learn more about how this type of borrowing works, and if an alternative may be a better fit.

A personal line of credit, or PLOC, gives you access to funds up to a set limit. You withdraw money when you need it, usually by transferring funds into your checking account via an online portal or by using lender-issued checks. You typically aren’t issued a card.

Rates are often variable. So if the prime rate moves, your monthly payment and the overall cost of your borrowing move with it — that’s good in a falling rate environment, but costly when interest rates are rising.

Read more: How the Fed impacts consumer loan interest rates

Fees vary as well. Most lenders charge a monthly or yearly fee, but some charge additional fees, such as:

Your interest rate might be variable, but the initial rate you receive ultimately depends on your credit score, income, and existing debt.

A personal line of credit usually has two distinct phases:

Draw period: You can withdraw funds freely. Minimum monthly payments are usually required. This period can last several years.

Repayment period: Withdrawals stop. Monthly payments increase because now you’re paying back the balance plus interest in full.

Minimum payments on a personal line of credit are often interest-only, said Melissa Cox, a CFP at Future Focused Wealth in Dallas.

“That keeps your monthly bill low but also keeps you in debt longer,” added Cox. “I’ve seen people carry balances for years without even realizing how much it’s costing them.”

Not every lender uses the same repayment rules, and terms can vary. For example, lenders might require you to pay whichever is higher: $50 or 2.5% of what you borrowed. Some credit lines even require a balloon payment at the end of the draw period, where you must repay the full balance in one lump sum.

That’s why it’s essential to understand your repayment terms before opening a personal line of credit.

Creditworthiness is the biggest factor in getting approved for a personal line of credit. Lenders want proof that you’re a responsible borrower who can repay them over time.

Before applying, pull your credit reports and check your credit score. A FICO score of at least 670 or higher is typically needed for a decent rate, though some lenders may expect to see a score of 760 or higher.

If your score is under 670, work on reducing existing revolving balances and clearing up late payments before applying.

In addition to your credit score and credit report, lenders also check your income, employment situation, and debt-to-income ratio. So you’ll need to show proof that you’re earning enough money to repay what you borrow in a timely manner.

Banks, credit unions, and some online lenders offer personal lines of credit. Popular lenders include:

If your current bank or credit union doesn’t offer personal lines of credit, you’ll need to search online for one that does. Typically, you need to open an account with the bank first before applying.

The application process looks similar to applying for a personal loan or credit card. You’ll provide personal information like your name and date of birth, details about your existing debts, along with employment and income documentation.

Most lenders do a hard credit check when you apply for a line of credit, so be prepared for a temporary dip in your score.

Review and accept the offer

Don’t rush this final step. Read each line in the loan agreement, especially the repayment rules. If a lender won’t clearly explain how your payment will change over time, that’s a red flag.

Before you sign, make sure you understand the following:

Is the interest rate fixed or variable?

How long is the draw period?

What happens when the draw period ends?

Is there an annual or inactivity fee?

How is the minimum payment calculated?

Does enrolling in autopay lower my rate?

Once you accept, your credit line activates, and you can begin withdrawing funds during the draw period.

A personal line of credit can affect your credit score in a few ways:

Hard inquiry: When you apply, there’s typically a hard pull on your credit report, which can temporarily lower your credit score.

Credit utilization: If you use more than about 30% of your credit line, your credit score will likely take a hit, and the closer you get to your credit limit, the bigger the drop. Credit utilization is a major part of your credit score, so keeping your balance low matters more than the hard inquiry that comes with opening your line of credit.

Payment history: Paying late or missing payments will tank your score fast. Paying on time helps build credit.

When handled responsibly, a personal line of credit can actually help boost your credit score. But when used irresponsibly, it can hurt you just as easily.

Read more: 8 common reasons why your credit score might drop

Personal lines of credit are best for situations where expenses are unpredictable, such as:

Home repairs or maintenance

Ongoing medical expenses

Short-term cash flow gaps due to self-employment or seasonal work

Wedding planning or big event costs

Moving and relocation expenses

However, PLOCs shouldn’t be used when your budget is consistently underwater. If you treat the credit line like bonus spending money, you can fall into debt quickly, said Cox.

“The trap is that it doesn’t feel like debt the way a loan or credit card might,” added Cox. “But over time, it’s easy to drift into a cycle where you’re using it more often than you planned … If you don’t have a payoff plan in place, they can quickly turn into financial quicksand — easy to step into, hard to get out of.”

Need to borrow money? A personal line of credit isn’t your only option. Here’s how other types of loans and credit lines compare.

Credit cards work better for day-to-day spending if you’re able to pay in full. You get a grace period to avoid interest and earn rewards. A PLOC charges interest right away and offers no perks, such as cash back or miles.

Credit cards usually have higher interest rates. PLOCs historically come with lower rates but can also charge fees. Both credit cards and personal lines of credit have limits and cost you interest when you carry a balance.

A HELOC taps your home’s equity, which makes it a secured line of credit. The lender has something to take if you stop repaying, so interest rates tend to be lower than with an unsecured personal line of credit.

That lower cost comes with some serious strings attached, though. Miss enough loan payments, and you could face a home foreclosure. A PLOC doesn’t put your house in jeopardy, but you’ll usually pay more in interest.

“A personal line of credit makes more sense if you need faster approval without appraisal requirements, want to avoid putting your home at risk, or need a smaller credit line that doesn’t justify HELOC closing costs,” said Toberman.

Both personal loans and personal lines of credit let you borrow without collateral. The difference is how you access the money.

A personal loan gives you a lump sum upfront. If you’re approved for $25,000, that amount is sent to your bank account, and you repay it in set monthly installments. It’s predictable and works well for one-time costs, but you’ll pay interest on the full amount from the start.

A personal line of credit acts more like a credit card. You only take what you need and can borrow again as you repay, up to your limit.

Personal loans usually have fixed APRs, which helps make payments predictable. PLOCs typically use variable APRs tied to the prime rate, so they can start competitively, but move with the market.

If you want payment stability, personal loans are likely the way to go. If you’ll borrow briefly and rates are steady or falling, a PLOC can be cheaper.

Read more: Personal line of credit vs. personal loan: Which one makes sense for you?