Key Takeaways
- The credit utilization ratio measures a person's credit card debt compared to their total credit card limits.
- Credit utilization makes up roughly 30% of your credit score, which makes it one of the most important factors in your credit report.
- In general, the lower your credit utilization the better, but anything below 30% is considered "good," and 0% may not necessarily be the best ratio to have.
- You can improve your credit utilization ratio by reducing your credit card debt or by increasing your credit limit.
Definition and Examples of the Credit Utilization Ratio
Credit utilization is another way of referring to your credit card debt. It's a measure of how much debt you currently have on your credit cards. Your credit utilization ratio takes the extra step of comparing that debt to your total available credit. The ratio can be calculated on a card-by-card basis, but it's more common to assess your overall credit utilization ratio across all your credit cards.
- Alternative name: Amounts owed
Note
Credit utilization makes up about 30% of your credit score. That means it's the second-biggest factor that influences your credit score—behind only your payment history.
The credit utilization ratio essentially answers the question, "How much of your total possible credit card limits are you using?" Creditors use this information to determine how responsible you are with the credit you've been given in the past. That helps them decide whether or not to issue you more credit, or what terms that credit will come with.
How Do You Calculate the Credit Utilization Ratio?
Because your credit utilization is a simple ratio, you can easily estimate your own credit utilization. All you need to know are your credit card limits and credit card balances. You can get this information by checking your most recent credit card statement, logging into your online account, or contacting your credit card company some other way. Once you have that information, just divide your balance by your limit.
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How the Credit Utilization Ratio Works
Credit utilization is a fluid number. It changes as your credit card balances and credit limits change.
Maintaining a good credit utilization is important if you want to build and maintain a good credit score. As your credit utilization increases, your credit score can go down. A high credit utilization indicates that you're probably spending a significant portion of your monthly income on debt payments, and this puts you at a higher risk of defaulting on your payments (at least in the eyes of creditors).
If your credit utilization ratio is too high, your credit card and loan applications could be denied. Even if you are approved, you may have to pay higher interest rates or make a larger down payment than if you had a good credit utilization ratio.
If you use your credit cards at all—even if you quickly pay them off—your credit report probablywon't reflect a zero balance. However, that's nothing to fear. Your balance and credit limit information usually update on your credit report within 30 to 45 days, which means your score can improve just as quickly as it takes a hit. It's also sometimes better to have some activity on your account—a 1% credit utilization ratio can look better than 0% in some cases.
Note
One rule of thumb that's often cited is to keep your credit utilization ratio below 30%, but experts say that the ideal is even lower—the lower, the better.
Reducing Your Credit Utilization Ratio
You have the ability to reduce your credit utilization. Any actions you take to reduce your ratio will reflect on your credit report (and in your credit score) the next time your credit card issuer reports your balance information. There are generally two ways you can improve your credit utilization.
First, you can reduce your credit card balances. Simply pay as much as you can toward your credit card to quickly reduce your balance (and your credit utilization). Keep in mind that your credit card issuer may not report your balance until the end of your billing cycle, so leave your balance low until then to ensure that it shows up on your credit report. If you can't pay down your balance right away, refrain from new credit card purchases, and reduce your balance as much as you can. Your balance will go down slowly over time.
If you can't reduce your debt, the other way to reduce your credit utilization is to have your credit card issuerincrease your credit limit. However, that may be more easily said than done. When deciding whether or not to increase your credit limit, your creditor will look at factors such as your income,credit history, and how much time has elapsed since your last credit limit increase. If you're struggling with credit utilization already, your credit might not be as good as it could be, which means your creditor may be unwilling to extend more credit to you.
Note
Opening a new credit card could technically lower your overall credit utilization. However, applying for a new credit card will trigger a hard pull on your credit and that could negatively affect your score—potentially undoing any benefits of reducing your credit utilization. It's better to expand an existing credit account, because that won't come with a hard credit check.
Limitations of the Credit Utilization Ratio
While your credit utilization ratio fluctuates, not every single fluctuation will be reflected in your credit score. Your credit score is calculated by using the credit utilization information available on your credit report at that point in time, which may differ from your current account balance. Your credit report isn't updated every day, so if you've recently paid off a big chunk of your debt or made a big purchase, that might not be reflected in your credit score right away.
