Credit cards are a convenient way to purchase things, not to mention an essential part of building your credit score. But the actual act of using your credit card — too much, that is — can lower your credit score if you’re not careful.
It might seem counterintuitive to get dinged by FICO for making good use of your line of credit. But, creditworthiness is a very tricky metric that requires a cautious and calculated balance of spending and repaying.
Keep reading for the full run-down on credit usage, how it affects your credit score and what you can do to keep it low.
What is credit usage?
Credit usage — also called credit utilization — measures how much of your available credit you’re actively using. It’s a ratio between:
- Your credit card balance
- Your maximum credit limit
Lenders use a series of metrics to calculate credit score; credit utilization ratio is just one of those many factors. The amount of credit you’re currently using indicates, in part, your ability to pay back the borrowed amount.
How to calculate credit usage
The formula to calculate credit usage is simple:
Your current credit card account balance
Your credit limit
Because credit usage is expressed as a percentage rather than an absolute number, a high credit utilization ratio depends not just on how much you’ve been spending but also on how much credit lenders extend to you.
Take a look at these scenarios:
- Jamie has a credit card balance of $1,000 but a credit limit of $10,000. His credit usage ratio is only 10% — that’s considered low.
- Arjun has a credit balance of $7,500 but a credit limit of $25,000. His credit usage ratio is 30% — this is approaching the upper limit of “good” or “acceptable” credit utilization.
- Chiara has a credit card balance of only $500 but a credit limit of just $1,000. Her credit usage ratio is 50% — this is considered fairly high and may earn Chiara a lower credit score.
While Arjun is borrowing a lot more than Chiara, his credit usage is lower.
When is my credit usage calculated and reported?
Your credit score is updated periodically — oftentimes every month — so it won’t always reflect the most recent purchases and payments.
Your credit utilization is usually calculated based on your balance at the end of your statement period. The outstanding balance and total credit limit on this date are what will affect your credit score.
Why does credit usage affect credit scores?
Your credit score is affected by the totality of your credit habits — every little thing you do in relation to that plastic card in your wallet, as well as other lines of credit like personal loan repayments.
Credit usage is just one indication of your presumed lending risk. The person that maxes out their credit card — or worse yet, cards — is assumed to have a harder time paying them off than someone who makes small, manageable purchases each statement period.
The higher the debt, the harder it is to get under control.
So, while using your credit card and paying it off promptly is a surefire way to improve your credit score, using it too much will have the exact opposite effect.
How credit usage can positively or negatively impact credit scores
If you’re wondering about the credit usage impact on credit scores, the formula is simple:
- High credit usage percentage = negative impact on credit score
- Low credit usage percentage = positive impact on credit score
But what’s “high” and what’s “low”?
Financial experts have long claimed that a credit utilization ratio of 30% is about as high as you want to go to maintain a solid credit score. However, for a truly excellent score, they’re now claiming that 10% or less is the sweet spot. FICO says that sometimes low credit utilization is better for your creditworthiness than none at all. It shows that you’re using and actively repaying your line of credit.
And while the occasional small spike in credit usage won’t make a massive difference, consistently overextending your line of credit will.
When it comes to your credit score, credit usage is a sliding scale, not a binary switch that gets flipped when you exceed a certain threshold. A credit utilization percentage of 70% or 80% can be seriously damaging, whereas 40% or 50% could still lower your score but not as drastically.
Other factors that influence credit score
Your credit score is like one big pie — credit utilization is just a piece of it.
FICO uses a pie chart to illustrate the five different factors that influence your credit score, cut into different sizes to reflect their significance:
- Payment history (35%) – This provides a holistic view of how you’ve paid back debts over time. Evidence of repayment is precisely what credit lenders are looking for, which is why it accounts for the largest percentage of your credit score. A few late payments won’t sink your score automatically, but a pattern of missed payments might.
- Amounts owed (30%) – This is the amount you owe across all lines of credit, including credit cards, student loans, mortgages and so on. This piece of the pie calculates the amount owed across all accounts, across each type of account, how many accounts have balances, the outstanding amount on an installment loan and your credit utilization. FICO states credit usage is more influential than your total debt.
- Length of credit history (15%) – If you just applied for your first credit card last month, you haven’t had much time to sink yourself into debt or overextend yourself, or at least that’s how credit lenders see it. A longer credit history — granted that you’ve maintained a good enough record over time — will boost your credit score by proving consistency and dependability.
- New credit (10%) – Opening several new accounts at once is considered a risk to lenders. That’s why FICO scores include your new lines of credit by factoring in your number of new accounts, your amount of recent inquiries and the length of time since you last opened an account.
- Credit mix (10%) – Your ability to manage and successfully repay multiple types of credit is an asset to your credit score, so long as you’re actively repaying them on time. These accounts include both revolving credit and installment plans, like credit cards, mortgages and student loans.
VantageScore, the other popular source of credit score checks, uses the same five factors but weighted differently:
- Total credit usage, balance and available credit – Extremely influential
- Credit mix and experience – Highly influential
- Payment history – Moderately influential
- Age of credit history – Less influential
- New accounts opened – Less influential
How to lower credit usage
The most obvious way to lower your credit usage is to lower how much you use your credit cards. However, there are plenty of ways to reduce your credit utilization ratio while still charging everyday purchases to your cards:
- Timing your payments properly – The goal is to have a low credit usage ratio on the day that your card issuer sends their credit report to the credit bureaus. Usually, this is on the last day of your billing cycle. Try to either pay off your balance right before this date or make recurring payments twice a month to maintain a lower credit usage percentage overall.
- Using multiple cards to spread out your spending – A balance of $3,000 on a card with a $4,000 limit won’t bode well for your credit score. However, three separate balances of $1,000 spread across three cards with $4,000 limits won’t have the same negative impact. Just keep in mind that some credit scores consider your credit utilization across all accounts rather than individually.
- Requesting a credit limit increase – Because your credit usage is measured as a ratio, you can adjust either number to change your overall utilization percentage. By increasing your credit limit from $5,000 to $15,000, your monthly expenditure of $2,500 no longer results in a credit usage ratio of 50% — now, it’s just 17%. However, credit bureaus can also penalize you for requesting a limit increase.
Tackle credit usage with Tally
Tally’s credit card management app is an easy way to stay on top of your bill repayments, which can protect your credit utilization score.
By keeping all of your accounts in one easy-to-manage location, you can:
- Monitor the important details and deadlines
- Rely on Tally’s repayment methods to save you the most money in interest
- Make a single payment each month, regardless of how many accounts you have
The faster and more efficiently you pay back debt, the lower your credit usage — and the better your credit score and peace of mind.