What is a line of credit?

A line of credit is best described as a flexible loan option with a borrowing limit. This financial arrangement allows a borrower to access funds up to a predetermined limit, which they can draw from as needed. Unlike a fixed loan, where the borrower receives a lump sum and begins paying interest on the entire amount immediately, a line of credit permits borrowers to withdraw money, repay it, and borrow again within the established limit.

This flexibility is particularly advantageous for managing cash flow, covering short-term financial needs, or handling unexpected expenses without the need to apply for a new loan each time. Interest is typically charged only on the amount that is drawn, rather than the whole credit limit, making it more cost-effective than traditional loans for fluctuating financial needs.

Other options do not accurately capture the nature of a line of credit. A fixed loan amount with no flexibility does not reflect the adjustable nature of a line of credit. A long-term investment strategy and a type of insurance policy also do not align with the definition of a line of credit, as they pertain to entirely different financial concepts.