What Is Credit Card Utilization and How Can It Affect Your Credit Score?

Too many debtors neglect their credit utilization ratio. People are quick to open new loan accounts without considering how an increase in their available credit line will affect their credit score. In fact, reports indicate that the average American carries at least four credit cards. So, what is credit utilization, and what impact does it have on your overall credit report?

What Is Credit Utilization?

The credit utilization rate refers to the percentage gap between a person's revolving credit card debt and available credit. A higher ratio indicates overspending and will hurt your credit score. Meanwhile, a lower credit utilization percentage suggests good cash flow, as the debtor only consumes a meager portion of their revolving credit.

For example, let's say you have four credit cards, and each account has the following available credit and existing debt:

  • Card A: Credit limit of $5,000; unpaid balance of $2,000
  • Card B: Credit limit of $3,000; unpaid balance of $2,000
  • Card C: Credit limit of $4,000; unpaid balance of $1,000
  • Card D: Credit limit of $5,000; unpaid balance of $500

You can calculate the utilization ratio by dividing your total credit card debt against your maximum credit card limit. In this case, the total debt would be $5,500, and the credit line would total to $17,000, so the utilization ratio would amount to 32.35%.

How Much Does Credit Utilization Affect Your Credit Score?

Reports indicate that your credit utilization ratio can account for up to 30% of your total credit score. If you fail to reduce your credit utilization rate, you might have trouble qualifying for new credit cards and opening new loan accounts in the future.

Can Lowering Your Credit Utilization Affect Your Score?

To maintain good credit standing, debtors should never go beyond an overall credit utilization ratio of 30%. Going even one or two percent above that may already tip the scoring model.

Meanwhile, those who want to boost their credit scores should maintain a credit utilization ratio of under 10%. Debtors who successfully maintain this ratio for at least a year or so can expect an increase in their credit scores.

Although, bear in mind that lenders do not consider a 0% credit utilization ratio the ideal score. A 0% rate indicates that the cardholder does not use their account to make any type of purchase. This ratio won't lower your credit score, but it won't improve your standing either.

Remember: your credit card issuer wants you to use your card. After all, card-issuing banks generate most of their profit from interest rate payments and miscellaneous charges.

Does Credit Utilization Include All Cards?

Your credit utilization ratio accounts for the entirety of your revolving credit line, including all credit card accounts. However, secured financing plans like auto loans and mortgage payments do not affect the ratio.

Any Credit explains how credit inquiries might affect your credit score. Check out our article explaining the difference between hard and soft credit inquiries!

How Can You Keep Your Utilization Rate Low?

Some simple, efficient ways to lower your credit utilization rate include:

1. Keeping Credit Cards Open

Closing old credit cards will lower your available credit line and possibly drop your utilization ratio as well.

2. Tracking Expenses

A simple, straightforward way to bring down your utilization ratio is to stop spending so much money from your card account.

3. Calculating Your Credit Utilization Ratio

Make a habit of calculating your credit utilization ratio at least once every month, then see how these rates affect your overall credit standing.

4. Avoiding New Card Accounts

Do not open new credit card accounts unless you need them. Your credit score will drop even further if you make multiple hard inquiries and get rejected.

5. Paying Bills on Time

Even if your account has zero late payment fees, never leave your credit card balance unpaid for more than one billing cycle.

How Long Does it Take to Rebuild Credit History?

The time it takes to rebuild credit scores depends on a case-by-case basis. For example, if your FICO score had just recently dropped because of a few missed payments, you can expect your score to bounce back after a few months. Although, the records of late payments might stay on credit records for at least a year—even if your score increases by a few points already.

However, when it comes to grave cases like defaulting on mortgage payments, having multiple unpaid credit card debts, or filing for bankruptcy, boosting your credit score back up can take you anywhere from 5 to 10 years.

Does Credit Utilization Reset Every Month?

Most lenders update credit utilization ratings every 30 to 45 days. However, note that your score won't drop back to zero after every update.

Frequently Asked Questions

How many points can a credit score increase in a month?

Achieving a perfect credit score doesn't happen overnight. But if you pay your bills on time, eliminate any consumer debt you have, don't run large balances, or maintain too many unsecured loans, an increase in your credit rating could be achieved within months.

Is it better to settle an account or pay your debt in full?

It is always better to pay off your debt in full if possible. While settling an account won't damage your credit as much as not paying at all, a status of "settled" on your credit report can still be considered negative depending on factors like the amount you owe or the length of time it's settled for.

Is it bad to pay your credit card twice a month?

The most important thing to remember when it comes to your credit score is making sure you are always on time with payments. Second, by using a lot of different payment methods like paying multiple times at once or dividing the amount into smaller chunks over various periods, you will be able to keep both balances and utilization rates lower.

Can you max out a credit card and pay it off?

Maxing out all your credit cards is much worse than maxing one, but you can recover and start fresh with some work as long as you stop borrowing money on top of what's already owed.

How long does it take to clear bad credit history?

A missed payment has a consequence that lasts for about seven years. However, the length of time you'll see this on your credit history report depends largely on what type of bill it is and who is doing the reporting to the credit agencies.

A solid understanding of how credit utilization ratio scores work and their impact on one's credit history can significantly help debtors maintain creditworthiness. Maxing out your credit card limits won't do you good. In worse cases, banks might assume that you have an insufficient monthly cash flow to support your lifestyle.

Overall, strive to keep your credit utilization rate under 10%, think twice before canceling old credit cards, keep track of your purchases, and try for a higher credit limit the next time you open a new credit card account. Also, make sure to pay off your credit card balance dues on time every month. Late credit card payments will only drag down your FICO score even further.

Any Credit has multiple guides explaining how debtors can keep track of their credit scores. Check out our tips and guides to calculate your credit and improve creditworthiness among financial institutions.

Here at AnyCredit, we aim to make the most complex financial issues and topics easy to understand. In our articles, we will be making analysis, smart finance judgments, and honest conversations to help you make sense of your financial capacities and options.
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