What is the credit utilization ratio?

  • Your credit utilization rate is the percentage of your credit limits that you are using.
  • Your credit utilization ratio is part of the “amounts owing” category, which determines about 30% of your FICO score.
  • Maintaining a lower utilization rate is better for your credit scores.
  • Read more stories from Personal Finance Insider.

Credit scores take into account a variety of information in your credit report to determine your score. One of the main scoring factors is your credit utilization rate, which is a comparison of your revolving account balances and credit limits as they appear on your credit report.

Having a lot of debt can lead to a high utilization rate, which can hurt your scores. But your utilization rate is also one of the few important scoring factors that you may be able to change quickly to improve your credit score.

What is the credit utilization rate?

Your revolving account’s credit utilization ratio is its balance divided by its credit limit, which tells you how much available credit you’re using. Credit scoring algorithms view utilization ratios as an important factor because high utilization has been shown to correlate with an increased risk of someone missing a payment in the future.

This is perhaps not surprising. After all, someone who has maxed out their credit cards might be in financial trouble or prone to overspending. As a result, they might not be able to pay all of their monthly payments or manage a new loan or line of credit.

How does the credit utilization ratio affect credit scores?

The rate of credit utilization can often have a major impact on credit scores, but the exact effect will depend on the type of credit score – there are many different scoring models – and your overall credit report.

“Each model has its own way of calculating your credit score, with more or less emphasis on how your credit is used,” says Jay Zigmont, Ph.D., CFP® professional and founder of Live, Learn, Plan, a Mississippi-based registered investment advisory firm. Still, usage is often a major rating factor. Your credit utilization ratio is part of the “amounts owing” category, which determines about 30% of your FICO score.

Credit scoring models can also take into account your overall utilization rate (the sum of your revolving account balances over their credit limits) and the utilization rate of specific credit accounts. Therefore, even if your overall usage rate is low, maxing out one of your credit cards can hurt your credit score.

A silver lining is that many credit scoring models only consider your current usage rate. “Most of your credit [score] is based on things that take time, like your average credit term and how many months you’ve paid on time,” Zigmont says. But if your usage drops month over month, it could have an immediate impact on your scores. This is changing with some of the latest scoring models, but many creditors still use older models to rate applicants.

How to calculate the credit utilization rate

You can calculate your credit utilization rate by dividing the balance of a revolving account by its credit limit.

“Only your revolving credit is used in usage calculations,” Zigmont explains. “Credit cards are a common form of revolving credit.” However, other revolving lines of credit, such as a personal line of credit or a home equity line of credit, may also affect your credit utilization rate.

To do the math, check your credit report to find an account’s balance and limit. You can then divide the balance by the credit limit. For example, if your credit card has a balance of $2000 and a credit limit of $4000, the utilization rate is 50% because 2000 / 4000 = 0.50.

If you have multiple credit cards or other revolving accounts, you can check each account’s usage rate and combine the totals to find your overall usage rate.

Some credit monitoring tools, such as Credit Karma and Experian’s credit monitoring service, will also automatically calculate and display your usage for each credit card and your overall usage rate.

A trick to lower your credit utilization rate

It’s important to remember that balances and credit limits come from one of your credit reports. These will not necessarily be the same as your current account balance or limit.

Creditors often report your account details, including current balance and limit, to the credit bureaus near the end of each statement period. With credit cards, it’s often about three weeks before your bill is due. Therefore, you might have a high usage rate even if you pay your bill in full each month.

If you’re trying to improve your credit score while using your credit cards frequently, perhaps to earn rewards, try to pay off the balance before the end of your statement period. You could even make multiple payments each month. This may reduce the declared balance and the resulting utilization rate.

Sallie R. Loera