What is a Credit Utilization Ratio?
Think of the Credit Utilization Ratio as a measure of how much of your total available credit you’re using.
Your Credit Utilization Ratio is calculated by dividing the amount you’ve charged by your total credit limit.
For Example:
Imagine you have a credit card with a limit of $1,000. This is like your financial “tank” that you can fill up with charges.
Now, let’s say you’ve charged $500 to your credit card.
Your Credit Utilization Ratio is calculated by dividing the amount you’ve charged ($500) by your total credit limit ($1,000). In this case, your Credit Utilization Ratio would be 0.5, or 50%.
What is considered a good Credit Utilization Ratio?
Much like a debt-to-income ratio, staying below one third (around 35%) is considered good.
Once you go above 50%, credit bureaus believe you are overextending yourself.
A high Credit Utilization Ratio can lower your credit score, while a low ratio can help increase it.
!*$*$* Important! *$*$*!
Your Credit Utilization Ratio is far more important than most people realize.
Stop here and learn about different types of credit in your credit report.
The Credit Utilization Ratio of your revolving credit accounts is typically a huge factor in calculating your credit score. Once your utilization on any card goes above 50%, your score can drop — even if you pay on time.
If any of your cards reach or exceed their credit limit, your score can drop dramatically, even if you are responsible and pay everything as agreed.
This is one of the reasons many people consider the credit reporting system unfair. You can do everything right and still be penalized.
Some credit card companies may even raise your interest rate or lower your credit limit if they see high utilization on another card. This is why many view the system as stacked against consumers.
Remember
The system exists to justify charging you as much as possible. Paying bills on time helps, but keeping your utilization low matters just as much.
A good rule of thumb is to keep utilization below 25%. If you must exceed 50%, pay it down as quickly as possible and always pay more than the minimum.