Car Owners Beware: 5 Reasons NOT to Use a Line of Credit to Make Payments
For those hanging on the edge financially, a line of credit keeps them from falling into a monetary abyss so-to-speak. And there are good reasons for using them. A sudden emergency or crisis may overwhelm a person to the point that they’re unable to pay their bills. Also, those who carry the heavy weights of debt, can rely on this option as a means to reduce their liabilities. But there’s a problem – too many people don’t understand how a line of credit works, and end up using one to pay for the wrong things, such as a car. Although some can make such an arrangement work, others can find themselves in dangerous territory. That’s why you should think twice about taking this route.
Five Reasons to Think Otherwise
Depending on who you bank with, you probably have spoken to a financial advisor who has recommended that you take a line of credit (pretty much all of you) at some time or another. You may have been a bit reluctant to take it, especially if you had good credit in the past, or you could have readily accepted based on the benefits given by your financial advisor. Initially, there’s nothing wrong with applying for one, provided you know how it works and how to use it. Unfortunately, people accept them for the wrong reasons.
This post focuses on one aspect that people use it for when they shouldn’t – car payments. It’s true that not everyone who uses a line of credit to pay for a car will face negative consequences, but there’s no guarantee things will turn out for the best either. With the amount of variables that can throw you off the financial rails, it’s better to think twice about resorting to this option.
Lines of Credit are Interest-Only Loans
Remember, a line of credit doesn’t work like your chequing account – there’s interest. And the longer you take to pay it off, interest rates will only add to your debts. The result is an increase in your liabilities and a reduction of your assets, which can take a toll on your credit score if you don’t pay it back over time.
Fluctuating Interest Rates
Another reason to exercise caution comes from the peaks and valleys found in lines of credit that have variable rates. It gets tricky trying to calculate what your total liabilities are in such instances. And when it comes to your finances, you never want to be in the dark.
They’re a Last Resort
If you see a recurring theme throughout this post, you’ll most likely realize the message is to use your line of credit as a last resort. Its primary purpose is for emergencies. In other words, they’re a backup plan for your backup plan (ie. a safety net if savings or some other emergency fund won’t suffice). So if you were to use it to make car payments while allowing other liabilities to increase, you could eventually find yourself in a debt spiral. At that point, your lifeline would become lifeless.
Your Line of Credit is a Demand Note
A somewhat frightening reality of credit lines, is your bank’s ability to demand full payment for them at anytime. They can do so with or without cause, and if you don’t have the cash to do so, they can use what’s known as their “Right to Offset”. Basically, this means they can seize whatever funds you have if and when they choose, and it’s perfectly legal (it’s written in your contract). People who face this are often surprised to find their accounts drained, and often receive a lot of pressure from their banks to pay the money they owe.
Creditors May Consider a Line of Credit as a Mortgage
Credit lines generally fall under two types, secured and unsecured. If you have a secured loan, it will be tied to your home, meaning creditors see it as a second mortgage. Now this is fine if you can make regular and timely payments. However, defaults in payment (failure to make a payment for whatever reason) can lead to the bank repossessing your home. Hopefully, you won’t miss any payments, but if your circumstances get too difficult, you may start to lag behind.
Circling the Line Without Crossing It
Understandably, paying for a car isn’t easy for everyone. This is certainly true if you are juggling multiple debts, including a car you MUST depend on. That’s why the line of credit may seem like the best option at the time. Now unless you’ve reached a complete dead-end, it’s certainly better to find other means to make your car payments easier.
Line of Credit Alternatives
- Tweak your spending habits – You’d be surprised how much money you can save just by re-evaluating your budget, especially when it comes to seasonal purchases. Eliminating unnecessary expenses throughout the month may allow you to tap into more of your own cash. With that said, you can use it to make those car payments you have trouble with.
- Refinance your car loan – Your auto loan isn’t necessarily a fixed deal. Rates can drop. If that happens, you may be able to refinance at a lower rate, allowing you to make smaller payments and save over time. If timing is the issue, you can tweak the schedule so that you can pay at a time that accommodates you best.
Think Twice Before Using
If you’re in a financial crisis and can get approved for a line of credit, then it’s worth getting one. You can consolidate debts and escape the worst when it comes to your finances. However, beware of using one for car payments. Relying on regular financing or leasing plans is a much safer gamble since you’ll avoid many of the consequences mentioned throughout this post. Remember, every transaction you make and every payment method you use affects your credit in some way. Understanding how a line of credit works can prevent your score from falling, giving you a better chance for a more secure financial future.