What is a good credit utilization ratio?

A credit utilization ratio is the balance on your credit card compared to that card’s line of credit – or, if you have more than one credit card, the total of your combined balances compared to your limit total credit on all your credit cards. It is expressed as a percentage and considered the second most important credit score factor after payment history.

Why is this number so important? And how to improve it? Read on to learn how credit usage affects your scores and what you can do to keep the ratio optimal.

Why is a credit utilization ratio important?

According to the FICO scoring model, your credit utilization ratio is 30% of your credit score. It’s based on your revolving credit – your credit card usage and lines of credit. This means that when FICO pulls information from your credit report to calculate your credit score, the ratio of your current balances to your available credit determines nearly a third of the calculation. Using installment loans also counts towards your credit score, but it has less of an impact on your score than revolving use.

Credit usage is an important factor in your credit score because it shows how you are using the credit available to you. If your credit utilization rate is low, it may indicate that you manage your credit well and are not inclined to overspend. If, on the other hand, you tend to max out your credit cards, your high credit utilization ratio may cause lenders to wonder if you’re in financial trouble — or if your high balances indicate you’re borrowing more. that you cannot repay. .

See related: What affects your credit rating?

For calculate your credit card usage ratio, divide your current balance by your credit limit. For example, if you owe $1,000 on a credit card with a line of credit of $10,000, your credit utilization rate is 10%.

To find your total credit utilization rate, divide the sum of all current balances by the sum of your credit limits. For example, if you owe $200 on one card with a $5,000 line of credit and $300 on a second card with a $1,000 line of credit, your total credit usage is approximately 8% (a total balance of $500 divided by $6,000 total available credit).

What is the best credit utilization ratio?

A good rule of thumb is to keep your credit utilization below 30%. However, this rule is not set in stone.

“There’s certainly no hard and fast rule when it comes to determining what percentage to use to maintain a good or even a great credit score,” says Anna Barker, personal finance expert and founder of LogicalDollar. “That said, the 30% rule has become widely seen as the tipping point. While that’s not a bad number to base your utilization rate on, there’s no set number to calculate it from, especially when you consider the number of other factors that go into calculating your usage score. credit.

While the 30% rule can be a good benchmark, it’s best to aim to keep your credit usage as low as possible – ideally in the single digits.

“Several years ago, I had an expert from Experian on my podcast, and she mentioned keeping credit utilization below 30%,” said Robert Berger, associate editor of Forbes Money. Advisor and author of “Retire Before Mom and Dad”. “It turns out that 30% is not a magic number. In fact, people with scores of 800 and above generally only use 7% of their available credit.”

How to improve your credit utilization rate

Now that you have an idea of ​​the ratio you should be aiming for, you can start thinking about the strategies you can use to achieve it.

Know when your credit card issuer reports balances

It’s useful to know how the credit report works when it comes to card balances. Each credit card company has its own credit bureau reporting schedule. Typically, this report occurs once a month at the end of your billing cycle.

This means that if you make a payment that significantly reduces your credit usage, it might not affect your credit score until the bureaus receive the updated report. Likewise, a large purchase just before a reporting period could cause your credit utilization rate to appear higher than usual. Pay off your balances in full each month or make multiple balance payments throughout the month to keep your credit utilization rate as low as possible whenever it’s reported.

Maintain healthy credit usage on each card

It’s essential to keep both your total credit usage and card usage in mind. Even if you keep your total ratio low, a high balance on one of your credit cards can be a red flag for lenders. A high balance on a single credit card can also have a negative effect on your credit scores.

“It’s important to keep this in mind to avoid taking actions that you think might improve your credit score, when it’s hurting it,” Barker says. “For example, if you have maxed out one card and open another where you are holding the balance at zero to try and offset the first. your score.

The best way to avoid such problems, Barker suggests, is to make sure you don’t go near the limit on any of your cards.

“That way both points are treated at the same time.”

Open new credit cards to increase your available credit

Get a new credit card has the potential to improve your credit score. Each new credit card you receive gives you more available credit, which can lower your overall credit utilization ratio — as long as you don’t immediately turn that new credit into new debt. However, applying for a credit card triggers a thorough investigation into your credit which can negatively impact your credit score. New credit makes up 10% of your FICO credit score, and asking for too much new credit at once could hurt your score more than it helps.

That’s why it’s best to be strategic in your credit card applications. If the only reason you’re applying for a new credit card is to improve your credit utilization rate, a better option might be to apply for a higher credit limit on one or more of your existing cards. Because this too can trigger a difficult investigation with some card issuers, always ask first to make sure it won’t.

Think twice before closing your old credit cards

Closing a credit card should be considered with even more caution. Closing a line of credit will reduce your total credit limit, which has the potential to increase your credit utilization rate. Closing a credit card could also reduce the average age of your accounts. A closed account in good standing stays on your credit report for up to 10 years, but once that closed account disappears from your report, you could see a reduction in the length of your credit history and a drop in your score. Closing a credit card could also impact your credit mix, if the credit card was your only revolving credit account.

If possible, avoid closing your cards. If you are considering closing a card because you no longer wish to pay the annual fee, you can call the issuer and ask to downgrade the card to a no annual fee version in place. This way, you can keep the account open and get the card terms that work best for you.

See related: “Upgrade” to a no-fee credit card

How to Minimize Credit Usage While Maximizing Rewards

You might be wondering what impact keeping your credit utilization low can have on your credit card rewards. It’s a valid question, because more spending on a credit card translates to more cash back, points or miles – especially if you’re working to meet a registration bonus spending requirement.

The truth is, maintaining a 0% or near zero credit utilization rate on your rewards card is the best way to get the most out of your rewards card. One way to do this is to treat your rewards card like a debit card. If you charge a large amount, refund it immediately. This will help ensure that you won’t pay interest and the high balance won’t be reported if you pay it off before the end of your billing cycle.

“You maximize your credit card rewards by never paying interest and maintaining a zero balance when your credit activity is reported to the bureaus,” says Adam Selita, CEO of The Debt Relief Company. “Paying 20% ​​interest on a credit card that offers 2% cash back is pointless. This is definitely not the right way to maximize your benefits since you return any rewards you may have accrued.

See related: Do I have to pay my credit card balance all at once?

At the end of the line

If you want to get a great credit rating, it’s important to know how credit usage works. Keeping your credit utilization ratio under 30% at all times and aiming for less than 7% when possible can help you maintain a good or excellent credit. Since credit utilization is the second most important component of your FICO credit score, keeping balances low on all your credit cards will help keep your credit healthy. Not sure about your credit utilization rate? Use our credit usage calculator to know where you are.

Editorial Disclaimer

The editorial content of this page is based solely on the objective assessment of our editors and is not motivated by advertising money. It was not provided or commissioned by credit card issuers. However, we may receive compensation when you click on links to our partners’ products.

About Shirley Hudson

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