Utilization: Maintaining The Right Credit Balance to Limit Ratio
One of the first steps I recommend when repairing credit is to pay down any credit accounts where the balance is more than 25% of the account’s credit limit. When your credit score is calculated, substantial consideration is taken on a simple calculation. This calculation is called your “utilization”. It simply means, “How much of your total available credit are you currently using?” In other words, “Is this person spending money without keeping in mind it must be paid back?” Utilization is a huge factor when a credit score is calculated.
Two things are taken into consideration in regards to utilization when your credit score is calculated. First, your overall utilization. This is calculated by adding together the balances of all of your revolving accounts, and then adding together all of the credit limits. Then divide the balance by the limit.
Overall Utilization Example
- Credit Card #1 — Balance: $300 Limit: $500
- Credit Card #2 — Balance: $100 Limit: $300
- Credit Card #3 — Balance: $500 Limit: $1000
- Total balance: $900 Total credit limit: $1800
- Utilization = $900 / $1800 = 50% Total revolving utilization
In addition to your overall credit utilization, individual credit account utilization is also taken into account. This basically means that if you have ANY individual account where the balance is over 25% of the credit limit, it is likely hurting your credit. Therefore, even if your overall credit utilization is under 25%, if any one of those accounts have a balance over 25%, your credit score is affected.
It’s about ratio, not actual numbers
I have been asked if the credit limit dollar amount matters. Specifically, if one has a credit card with a credit limit of $200, and every month it’s reported that this person uses 75% of the available credit, does the same (as previously stated) apply. Logic may tells us that it shouldn’t apply because it’s likely that this person can easily pay off a $200 balance every month. However, utilization does apply –the limit does not matter. If you have a credit card with a $200 credit limit, spending over $50 will hurt your credit score.
When you are repairing or building credit, it’s good to have a credit card even if the credit limit is low. However, as you begin to build credit, it is in your best interest to request credit limit increases when the time is appropriate. Remember: keep your utilization as low as possible –preferably at or around 25%.
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18 Responses to “Utilization: Maintaining The Right Credit Balance to Limit Ratio”
By Ken on Nov 30, 2007 | Reply
I think it’s ridiculous that it doesn’t matter how much the credit limit is….
By Cathy on Nov 30, 2007 | Reply
Yeah, it’s definitely interesting how they do that.
By Jacob on Apr 29, 2009 | Reply
As I read over this again, I think there has got to be some terrible flaw in this logic.
I didn’t have a credit card at all until about a year ago. Since then I’ve been using around 90% of its credit every month, then paying it off in full, every month, so that I NEVER carry a balance and accrue interest.
Are you telling me that the “ideal” credit card user is someone who has a credit card, but doesn’t use it? Are you saying that someone who’s credit experience consists entirely of paying back small balances looks BETTER to a loan officer than someone who has shown consistincy in paying back large balances?
Please show some references.
By Erica on Apr 30, 2009 | Reply
So, does this mean that if I charge $1000 a month to a credit card with a $1500 limit, but pay it off completely every month, that it’s hurting my balance? Or is it only charges that stay on the card and incur finance charges that affect the score?
By Ryan Rife on Apr 30, 2009 | Reply
So if you have 1 credit card that is maxed out, then you’re saying it’s better to get 3 more credit cards with the same limit and move 25% of the first balance to each card?
By VetteVert on Apr 30, 2009 | Reply
Dumb question I guess…Is this just carrying a 25% balance from month to month, or actual dollars purchased? I pay my card in full every month, but sometimes spend up to 50% of the limit for a card.
By Lenny on Apr 30, 2009 | Reply
Sorry if I’m dense, but do you mean to say if I ever use more than 25% of my limit (even though I pay off the balance every due date) my credit score is adversely affected?
By Lenny on Apr 30, 2009 | Reply
Wow, just realized this was posted in 2007, just saw the article linked on Consumerist and Lifehacker though
By P on May 1, 2009 | Reply
Why is $0 balance = 100% utilization?
By Mark Fleser on May 1, 2009 | Reply
Does this count if I pay it off every month? Like if I have a balance of $800 on a card with a $2000 credit limit and I pay it off at the end of the month. Another thought is if I have a statement balance of $400 on that same card but after the statement is posted and I spend another $400 or $500 but pay it all off before the next statement is posted. What is this doing to my credit rating?
By jOHN on May 31, 2009 | Reply
Here is the bottom line, establishing good credit means being a LOW risk. If you max out your credit cards each month, you are showing a dependency on credit! You must prove that you control the card not the other way around. Utilization is just a way for creditors to assess risk and generally staying at or below 30% of your limit is good enough. This is the first time I have heard the 25% rule. Good luck out there!