What the Heck is Credit Utilization?
Everyone probably knows what a credit score is, but most have no idea why they have the score they do.
It’s pretty intuitive that if you don’t pay your bills on time or find yourself in bankrupcy, foreclosure, or in other serious default with your creditors, your credit score will plummet.
However, there are millions of Americans who pay all of their bills on time (and always have) and still have a crummy credit score.If this is you, it could be the result of high credit utilization.
Wait, wait… I know what you’re going to say. What the heck is credit utilization?
Definition of Credit Utilization
Here’s a simple definition: Credit utilization is how much credit you are using (i.e. balance) compared to how much credit you have available (i.e. credit limit).For example, if you have a balance (i.e. outstanding charges) of $1,250 on a credit card with a $5,000 credit limit, then you have a credit utilization of 25 percent.($1,250 / $5,000) x 100 = 25%
How Does Credit Utilization Affect My Credit Score?
Regardless of the credit scoring model your lender is using, most weigh credit utilization as a significant factor in your overall score. For example, FICO bases approximately 30 percent of your score on “amounts owed,” which includes credit utilization.This is second only to your payment history in importance to your overall credit score.
Why is Credit Utilization So Important?
Ultimately, creditors use your credit score to determine their risk in lending you money. If you’re already maxing out all of your available credit, most creditors are going to be a little leery of giving you additional credit lines or loans.
Credit utilization can also become a silent killer on your credit report if you don’t keep a close watch. In the current economy, credit card companies are actively managing their risk. Many credit card companies are canceling credit cards if you are not using them or if you have a sudden drop in your credit score.
For example, if you have two credit cards, each with a $1,000 credit limit, your total available credit is $2,000. If you have charged $500 on one of the credit cards and paid off the other, then your total credit utilization is 25 percent.
However, if you or your credit card company close that unsecured credit card, your available credit suddenly drops from $2,000 to $1,000, and that $500 balance now soars your credit utilization to a whopping 50 percent – killing your credit score.
Make sure to actively use all cards, what i do is rotate through all my cards using a different card on a monthly basis and paying it off monthly. You dont even need to make large purchases, for example keep one card on you for gas only, pay it off immediately or most definitely at the end of the month, then store that card , pull another card and use it for gas for the next month and so on and so forth. You will see your credit score increase over the long term.
What is Good Credit Utilization?
This begs the question, “What is a good credit utilization?”There’s no exact answer to this question, but I can give you some simple guidelines.It’s generally accepted that keeping your total credit utilization under 30 percent will keep your credit score in the good range. Reducing your credit utilization to 10 percent will more than likely put you into the excellent credit score range, assuming all other factors are strong.
Also, keep in mind that you should avoid any single credit card climbing above these ratios too. NEVER charge more than half the credit limit on any card or your credit score will suffer, keep all cards at the most at 25% of the credit line in charges preferably just one or 2 at this max range of 25% debt to credit limit.
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I hope you all enjoyed and took something from this article.
Till next time!