It's good, common-sense advice to avoid relying too heavily on credit to fund your lifestyle. This is because overusing credit can raise your credit utilization rate and subsequently lower your credit rating.
If you're not entirely sure what a credit utilization rate is, or why it matters, let’s go over what you need to know.
When you have a credit card, the credit limit dictates the maximum balance you can have on the credit card. There’s also a current balance, which shows how much you’ve charged to the credit card as of that moment.
Though credit card companies always show your balance, they don’t always show your credit utilization rate on your statement. The good news is that it’s easy to calculate it on your own! The credit utilization rate is simply the current balance divided by the total credit limit. This is also known as the credit utilization ratio or the credit utilization percentage.
You can also calculate the credit utilization rate among all your lines of credit. Just add up the current balance on all your accounts and divide that sum by the total credit limit for all the cards. This will show your overall credit utilization rate.
If you have a high credit utilization rate, your credit rating may suffer. This could make it harder to qualify for loans, lines of credit and other credit cards. You may also receive a higher interest rate than if you had a low credit utilization rate. A decent credit utilization rate should be 30 or less.
The best way to decrease your credit utilization rate is to pay off your debt. This may take some time, but the results are often dramatic. Though it’s often advised to pay debt according to the highest interest rate, when specifically trying to improve utilization, you may want to focus on paying off the card with the highest credit utilization ratio.
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