Credit Utilization

What Is Credit Utilization & Why Does It Matter?

Credit utilization refers to how much of your credit limit you use on a monthly basis. It’s extremely important that your spending does not approach your credit limit because credit utilization is a big component of your credit score, and even a ratio above 30% can damage your credit. This is one of the most important tenets of credit card use.

How to Calculate Credit Utilization

To calculate credit utilization for one credit card account, divide the balance listed on your monthly statement by the credit limit, then multiply the result by 100. For example, if you have a $1,000 statement balance and a $10,000 credit limit, your credit utilization is 10%.

To calculate your overall credit utilization rate, add all of your credit card statement balances together, divide that amount by the sum of all the credit limits and multiply by 100. Both types of utilization – for individual accounts and aggregate – are factored into credit scores.

How to Calculate Your Overall Credit Utilization

1. Add together all of your revolving credit balances, the amounts you owe on credit cards and other lines of credit.
2. Add all of your credit limits on your revolving accounts together.
3. Divide your total revolving credit balances by your total credit limits.
4. Multiply the number by 100 to get a percentage.

Example:

What Is a Good Credit Utilization Ratio?

The best credit utilization ratio is 1% to 10%, while a good credit utilization ratio is anything below 30%. On a credit card with a $1,000 limit, for example, it would be best to use $10 to $100 each month, and no more than $300.

Using any more than 30% of your available credit risks some credit score damage. But how much of an impact it will have depends on how responsible you are in all other areas of your finances.

Even though lower credit utilization percentages are usually better, 0% surprisingly isn’t the best possible utilization. Creditors like to see that you can handle making charges and paying them off without overspending. But 0% utilization is still a lot better than high utilization.

What Does “Maxing Out a Credit Card” Mean?

You max out a credit card when you spend up to or above your credit limit. This does not mean that your card has been shut down or that you will never be able to use it again. You have simply exhausted your allotment of credit for the current month and must therefore make a payment and free up some available credit before making any more purchases with it.

Key Things to Know About Maxing Out Credit Cards

• You should avoid maxing out your credit cards unless you have to do so in order to temporarily make ends meet or you plan to repay your full balance (or a large portion of it) right away.
• Habitually maxing out credit cards indicates unsustainable spending habits and a desperation to borrow, and it’s bad for your credit score.
• Some credit card issuers let you opt-in to going over your credit limit, which is even worse than just maxing out your card and comes with over-limit fees.

Keep in mind that if your current credit limit isn’t high enough to meet your everyday spending needs, you may want to request a credit line increase. You’ll have a good shot at receiving one if you’ve paid on time for the last six months in a row.

Is It Bad to Go Over Your Credit Limit or Get Close?

Spending that approaches or exceeds your credit limit will negatively affect your credit score unless you are able to reduce your balance before the next billing cycle begins. The higher your balance is compared to your credit limit, the worse it is for your credit standing.

You should also keep in mind that:

• You don’t need to exhaust your credit completely to incur credit score damage. In fact, it may occur simply as a result of using significant portions of your available credit.
• It’s best to use only about a third of the credit available to you. A utilization ratio below 30% is viewed as responsible by lenders and credit scorers, and it will help your credit score rather than place it in jeopardy.
• Creditors understand the difficulty of maintaining low utilization when your overall spending limit is low and may be more understanding of slightly higher utilization ratios in such situations. For example, someone who has a $400 credit limit could easily exhaust most of their credit line by making standard monthly purchases.
• Only your utilization ratio on the last day of your billing period gets reported to the credit bureaus. If you’re well above 30%, consider paying enough to bring your balance below 30% before your billing period ends, then pay the rest after you receive your statement.

Is Credit Utilization Calculated per Card or Overall?

Both. Credit scoring companies calculate credit utilization – a ratio of amounts owed vs. available credit – for each one of your credit lines and installment loans individually as well as all of them together. These metrics are included in the “Amounts Owed” portion of the FICO credit score model, which accounts for roughly 30% of your overall standing. “Credit Utilization” is its own category with the VantageScore model, accounting for 20% of your score.

Credit Utilization Guidelines

• Most experts recommend not allowing your utilization to rise above 30% of your credit limit.
• 1% to 10% credit utilization will improve your score the fastest.
• Even 0% credit utilization will help your score improve, though a little more slowly.

It’s best to make sure your spending does not approach your credit limit for any of your cards. Still, don’t get too concerned if just one of your cards is highly utilized as long as you have an overall utilization ratio of around 30% and thousands of dollars in available credit.

How Much Will High Credit Utilization Hurt Your Credit Score?

Your credit score is calculated using literally hundreds of variables. While credit utilization is an important factor that is included in a segment comprising up to 30% of your overall score, it still is just one variable among many.

The exact impact high credit utilization will have on your credit score depends on numerous other factors, including your credit history, how many credit cards you have and how much available credit you have overall. However, you can get a really good sense of how higher balances and other changes to your credit accounts might affect your score by using WalletHub’s free credit score simulator.

In general, the higher your credit utilization gets, the lower your credit score is likely to be. Below, you can see the average credit utilization ratio for people in each credit score range.

Average Credit Utilization by Credit Score

Source: Experian

As you can see, people with the lowest credit scores have an average credit utilization ratio of over 80%, while people with the most pristine scores only use around 7% of their credit limits. Keep in mind that these ratios are across all credit accounts. Having a high credit utilization on a single credit card won’t always tank your score. For example, it will affect a consumer with very little credit history and only one card far more than it will someone with various other credit cards, thousands of dollars of available credit and a long history of responsible credit use.

Maintaining a low credit utilization ratio can only help your credit score, but it’s one factor among many. Rather than getting bogged down in any one aspect of your credit score, focus on the big picture of all the elements considered together.

Does Paying Off Your Credit Card Hurt Your Credit Score?

Though it’s rumored that credit card companies view customers who pay their balances in full each month unfavorably because it precludes them from charging interest, this is a myth. Failing to pay your balance in full does not garner the favor of your creditors; it only leads to increased costs because of interest.

You can check your latest credit score for free here on WalletHub, as well as receive personalized advice on how to improve your score.

How to Lower Your Credit Utilization

There are three ways to lower your credit utilization. They are increasing your credit limit, making extra payments, and splitting your spending between multiple cards.

1. You can ask your credit card company for a credit limit increase at any time, but you’ll have a better chance of approval after at least six consecutive months of on-time payments. Even if you have bad credit, you can increase your credit limit by opening a secured credit card and adding to its security deposit over time.
2. You can make credit card payments more than once a month so that your balance never gets too high. Only the balance you have at the end of each billing period gets reported to the credit bureaus. So you can spend as much as you need to on your card and then pay off part of your balance to get your credit utilization ratio below 30% before your billing period ends.
3. You can split your spending between two credit cards, resulting in two cards with low credit utilization rather than one with relatively high utilization.

What Credit Cards Make Low Credit Utilization Difficult?

You need to know what your credit limit is in order to avoid high credit utilization. If you don’t, how can you make sure your spending stays well below it? Therefore, you should avoid or at least be very careful with No Preset Spending Limit (NPSL) cards.

There are several important things you need to know about this unique type of credit card:

• Many people open NPSL cards under the false impression that they provide unlimited spending.
• These cards do have limits. They’re just not always revealed to either cardholders or the credit bureaus, and they can change from month to month based on your credit standing, your spending habits, and the whims of the issuer.
• NPSL card users are left with both the increased likelihood that their cards will get unexpectedly declined and the potential for accidentally high credit utilization. After all, it’s hard to keep your utilization at a certain percentage if you don’t even know what the maximum is!
• The utilization percentage for these cards may not factor into your overall credit score, but your balance and payment history will always contribute to your score.
• Charge cards, which require you to pay your balance in full each month, typically have NPSL. Other types of cards that may have NPSL include top-tier rewards cards and business credit cards.

You can learn more about how different credit card issuers report NPSL credit cards and how they factor into your credit score with WalletHub’s in-depth study.