When used responsibly, credit cards offer a wealth of benefits, including helping you obtain lower interest rates on loans and improving your credit score. Credit cards are a convenient way to make purchases, and they also provide peace of mind through purchase protection. And many offer valuable rewards like cash back, discounts, or airline miles.
Many lenders will review your credit usage to determine your level of risk as a borrower. As experts in this area, we’ve put together the following information to show you how credit card usage can affect your credit score and what you can do to ensure lenders view your borrowing habits favorably.
Why is Credit Card Usage Important?
A good credit score can affect your ability to get jobs and your interest rates on loans. However, many people don’t know that just because the credit card company gives you certain limits, it doesn’t mean it’s OK to reach the limit and then make minimum payments on them.
How you use your credit cards can be just as, or more important than, how much you charge on them.
“Credit utilization” refers to the amount of credit available to you versus how much of that credit you’re currently using. This statistic makes up about 30% of your overall credit score. For instance, if you have $7,500 worth of available credit across multiple credit cards and you have already used $7,000, then you are at 93% credit utilization. This example would be considered a high credit utilization ratio and is potentially a negative sign for creditors. Lenders will use this information as a way to determine how you handle debt.
That’s why it is essential to know the difference between meeting or exceeding your credit card limit versus limiting your spending and paying your entire balance each month.
The Pros of Using Credit Cards
The benefits of using credit cards are seemingly endless:
- They are convenient and eliminate the need to carry large amounts of cash.
- They tend to be the safest and securest way to pay for things, with many offering protection on your purchases and against fraud.
- Credit cards can also help improve your overall credit score.
In addition to these benefits, many credit cards also offer cash back, discounts, and other rewards and can help make it easier to track your spending. As long as you’re careful and diligent about the way you use your credit cards, they can help you build a positive credit score.
How Does My Credit Card Usage Affect My Credit Score?
Although many factors impact your overall credit score, credit utilization strongly correlates with your overall credit rating. It can also be a risk factor when your credit is being reviewed for big purchases like auto loans or applying for a mortgage. When a financier is considering a loan application, lenders will take a broad view of your credit usage, including:
- Amount of available credit
- Overall credit usage
- Credit card balances/amount owed
- Consistent payment history
- New lines of credit or inquiries
- The length of your credit history
What Can I Do to Improve My Credit Score?
If you want to limit potential risk to your credit score, you should focus on lowering your credit card balance and usage by:
- Keeping your credit utilization below 30% of what creditors have allowed you.
- Always making your monthly payments on time or early.
- Strive to pay more than the minimum amount due each month. Paying off your balances reduces your credit usage ratio and total debt, which is a win-win scenario.
- Increasing the credit you have available automatically lowers your credit utilization ratio (as long as you don’t run up new debt!)
Be sure to remember that closing one or more credit cards can hurt your credit score because it will increase your credit usage ratio whether you use them or not, leaving accounts open increases the amount of available credit you have relative to the debt you owe.
Credit cards and how you manage them can have a significant impact on your credit score. Reducing your credit utilization ratio is an excellent way to boost your credit score and obtain more favorable financing terms on things like home and auto loans.
Have more questions about how credit card usage affects your credit score? Contact Community First Credit Union today to learn more about improving your credit score and improving your overall financial health.