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  • Credit Utilization Ratio

    Credit utilization ratio is one of the factors that can affect your credit score. Hence, it is important to understand what the credit utilisation ratio is, how it works, and how you can manage it in such a way that it works for you.

    What is Credit Utilization Ratio?

    Credit Utilisation is about how you’re using the revolving credit which is usually offered on credit cards. Hence, it’s more about how much revolving credit you’re using on all your credit cards. The more you spend on your credit card, the higher is your credit utilisation.

    Now, the credit utilisation ratio, sometimes called credit utilisation rate, is the amount of credit you’re using to the total amount of available revolving credit. This means the total credit you owe on all your credit cards to the total credit limit available on all your credit cards. Credit utilisation ratio is typically expressed as a percent.

    Credit utilization ratio
    Credit utilization ratio

    How to Calculate Credit Utilization Ratio?

    Credit utilisation ratio = (Total outstanding on all credit cards / Total credit limit) X 100

    For instance, you have two credit cards, having a total limit of Rs.1 lakh, and an outstanding balance of Rs.50,000 on one card and Rs.0 on another card.

    Then your credit utilisation ratio is calculated by dividing the total outstanding on both the cards (Rs.50,000 + Rs.0) with the total credit limit on the cards (Rs.1 lakh).

    Credit utilisation ratio on your card thus becomes (1,00,000 ÷ 50,000) × 100 = 50%

    Your credit utilisation ratio is 50%, which means you’re using half of the total credit available for you.

    Credit utilisation ratio can also be calculated for each of your credit cards and is called per-card ratio.

    What is a Good Credit Utilization Rate?

    Different credit agencies may have a different cut-off to determine the ideal credit utilisation ratio. However, it is usually recommended to have a total credit utilisation ratio below or equal to 30%.

    For instance, if your total credit limit on all your credit cards is Rs.1 lakh, your total outstanding on all the credit cards at any point of time should not exceed Rs.30,000.

    Ideal Credit Utilisation Ratio - Below 30% of the total credit limit

    How Does Credit Utilization Work?

    Credit utilisation ratio is typically considered by the credit rating agencies like CIBIL and Experian to calculate the credit score.

    The ratio can impact up to 30% of your credit score making it one among the most influential factors.

    A low credit utilisation ratio indicates you’re depending less on credit. This makes credit agencies believe that you’re good at managing your credit and are spending within the limit. This, in turn, helps you secure a high credit score.

    High credit score further enables you to secure other credit lines such as auto loans, home loans, personal loans, etc., much easier.

    On the flip side, a high utilisation ratio could send a message to the potential creditor that you’re struggling to manage your finances. This would lead to less or no eligibility for a loan.

    How to Reduce Your Credit Utilization Ratio?

    Now that you know the importance of having a low credit utilization ratio, you must be wondering how to achieve that. Below are a few financial habits that could help you score well.

    1. Spend within the limit: Just because your credit card has a higher credit card limit, you don’t have to use it to the fullest. Remember the 30-70 rule and try to limit your expenses to that extent.
    2. When you surpass the 30% limit on one credit card, try to balance it with your other cards. Either not use them till you repay the outstanding or use the least amount possible so that the average utilization comes below 30%.

      Follow the math every month on every credit card to achieve a low utilization ratio.

    3. Re-pay in full: No matter how much you spend on your credit card, make sure to repay the entire outstanding balance in full every month.
    4. Remember, every month you clear your credit card dues, you’re affecting your credit utilization ratio. Repaying the entire debt or making substantial payments every month would significantly bring your ratio below 30%.

      Even when you’re not making full payment, make sure to keep your outstanding dues as low as possible to achieve a low rate.

    5. Don’t use all credit cards: Another simple way to achieve a low utilisation ratio is to keep some credit card accounts with zero balance. This means don’t use one or two of your cards in a few months, if possible. This will automatically increase your total available credit limit, thus cutting down your utilisation rate.
    6. However, this isn’t possible if you overspend on the other credit card. Check your total available credit, calculate 25% to 30% of it, and accordingly plan your spends.

    7. Increase credit limit: If you have a good standing credit card account for more than 6 months, you can raise a credit limit increase request with the card issuer. If approved, it increases your total available credit thus helping you to get a low usage rate, provided you don’t increase your spends.
    8. Apply for new credit cards: The option comes with caution. Opening a new credit card account to increase your total credit limit might have a short-term negative effect on your credit score.

    While having too many credit cards compared to your overall credit mix would negatively impact the score, too many credit score checks, especially by new creditors, in a short time can also have a bad influence on the score.

    Hence, based on the existing credit cards you possess and their limits, carefully consider the right number of credit cards you should have based on your financial ability.

    Check your credit score now and know about your credit utilization ratio for FREE. A detailed credit report will be sent to your registered e-mail ID to provide you with a better picture of your credit utilization and score.

    Credit Limit Conundrum

    A high credit utilisation ratio suggests that you are likely to use the credit card to its maximum limit. When generating a credit score, a majority of credit bureaus consider the credit card utilisation ratio. Banks prefer to be conservative when issuing credit cards by keeping the card's credit limit on the low side. Banks review the credit card limit every 12 to 18 months depending on usage.

    You must not pass up the chance when banks offer to raise the credit card limit. It is recommended to not use more than 30% to 40% of the credit card limit. When you seek a higher credit card limit from your bank, they will check your credit report to analyse your credit status and determine your credit worthiness.

    Here are the benefits of increasing the credit limit:

    Improve your credit score: Raising the credit limit on your credit cards might help improve your credit since your debt to credit utilisation ratio lowers substantially. By raising the credit limit, you may continue to spend as per your requirement while benefiting from an available upper buffer. Thus, your credit score will be improved.

    Boost your purchasing power: A higher credit limit provides you with more purchasing power. This enables you to make large purchases like white goods and you can pay the remaining amount in EMIs.

    Obtain loans quickly: Your credit score improves as you increase your credit limit and maintain an exemplary payment record, putting you in a stronger position to negotiate lower interest rates on loans. A better credit score increases your chances of being approved for new loans or credit cards.

    It is important to keep in mind that you should spend responsibly if you increased your card’s credit limit. Furthermore, whether using the card online or offline, you must be careful and make sure that its security is not jeopardised. If your card has a high credit limit, you must invest in a credit card protection plan (CPP) to protect your card from being misused. Additionally, it is suggested that you set up alerts with your card companies so that you are notified if an unauthorised transaction occurs.

    FAQs on Credit Utilization Ratio

    1. What is the ideal credit utilisation ratio which I should keep?

      Ideally, it is advised to keep the credit utilisation ratio as low as possible. That helps maintain a healthy credit score. The advisable credit utilisation ratio is less than 30%.

    2. Is the credit utilisation ratio calculated for each credit account or all of them in total?

      Credit utilisation ratio is calculated on the basis of the total debt on all the revolving credit accounts and the total credit limit that is available to you.

    3. How can I keep my credit utilisation ratio at the lowest?

      You can follow a few simple steps to make sure that your credit utilisation ratio is low:

      Make multiple payments during the month, pay off the bills (as per feasibility) on the same day of purchase, use more than one credit card, keep your credit accounts open, and ask for an increase in your credit card limit.

    4. My credit utilisation is over 70%. Is that bad for my credit score?

      Yes, high credit utilisation is bad for your credit score. In general, it is advised to keep the utilisation under 30% of the overall credit limit. However, if it is not possible to keep it under 30%, it is advised to keep it at least under 50% at any cost.

    5. What will happen if I use more than the credit limit that I have on my credit card?

      In case you spend more than the credit limit available to you on your credit card, you will be charged with a penalty as per the terms and conditions of the credit card issuer.

    6. What is a credit utilization ratio?

      The credit utilisation ratio is defined as the percentage of a borrower's total available revolving credit that is being used. It plays an important factor in impacting your credit score.

    7. Is it important to have a good credit utilization ratio?

      It is good to keep a low credit utilization ratio because it is an indicator that the borrower is managing his credit responsibilities. However, a higher credit utilization ratio could be an indicator that the borrower is overspending and facing trouble in managing finances.

    8. How is the credit utilization ratio calculated?

      Credit utilisation ratios can be computed for each credit card (amount divided by card limit) and on a total basis (total balance on all cards divided by the sum of credit limits).

    9. How can you lower your credit utilization ratio?

      Reducing your costs is the simplest and most obvious strategy to minimise your credit usage percentage.

    10. Is a lower credit utilization ratio better?

      A lower credit utilization ratio is better for improving your credit scores, but a little utilization is better than none.

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