Do you know what your credit utilization ratio is? Some people just focus on their credit score. But that is not enough. Because you need to understand what’s affecting your credit score. What influences it to go up or down? If you know what these factors are, then you’ll know how to maintain a good credit score.
One of the factors affecting your credit score is your credit utilization.
According to reports, there is a drop in the average credit utilization – from 30% to 25%. This is caused by the determination of some consumers to reduce their credit card debt. You would think that the pandemic, recession, and the rising unemployment rate would push people to use credit cards more.
But that’s not happening. People are putting more effort into keeping their credit balance low. And that is one of the great things that you can do for your credit utilization ratio.
What exactly is this ratio?
This is the relationship between your credit card balance and limit. It’s basically the debt that you use for a particular time. For instance, you have a credit limit of $10,000. If your balance is $5,000, your credit utilization is 50%. The higher the rate, the more it makes you look like a high-risk borrower. If you want to improve your credit reputation, you need to lower this ratio.
The big question is, how?
Factors that improve your credit utilization ratio
To understand how to improve your credit utilization ratio, you need to do something about your balance. You want to lower the balance. The ideal ratio is 30%. So if you have a $10,000 limit, you need to lower your balance to $3,000.
Here are the different factors that will help you improve it.
Bigger debt payments
The truth is, increasing your debt payments will help solve a lot of credit issues. That includes your credit utilization rate. In fact, this is the most direct way that you can improve it. You need to lower your balance. That means you have to pay more each month. The bigger the monthly debt payments are, the faster the balance will go down. If your credit limit stays the same, it will bring your ratio down.
Consolidate multiple credit card debts
Another way to deal with your credit utilization ratio is to consolidate your multiple credit card debts. This will not directly affect your balance. But what it does is it will make your monthly payments easier to meet.
When you consolidate debts, it’s your chance to improve the repayment plan of your debts. You can choose to either lower your monthly payments or make it higher. You can also negotiate for a lower interest rate. Make sure you choose an option that you can afford to pay.
Remember, the goal is to make your monthly payments easier. This will guarantee that you will not miss out on a payment. That ensures that your balance will go down – hence improving your credit utilization rate.
Ask for a credit card limit increase
You can also opt to negotiate for a higher credit card limit. If you think that focusing on the balance will take a lot of time, then just do something about the limit. Take the example limit of $10,000. If your debt is $5,000, increasing your limit to $15,000 will make your credit utilization ratio 33.3%. This is a lot better compared to the original 50% when the limit was $10,000.
You simply have to call the creditor to adjust this limit. Of course, it will not really solve your problems. You still have to pay off your debts. But this will help improve your credit score – in case you have an immediate need for it.
Manage your credit use
Finally, you need to learn how to manage your use of credit. You have to follow the credit card rules so you can avoid having it grow beyond the ideal credit utilization ratio again. Set a limit to the amount of credit that you will use each month. Make sure it’s an amount that you can afford to pay off each month. The more you can pay, the less balance you will have.
While you are still trying to bring your balance down, make sure that you put a tight lid on your credit spending. It’ll be hard to work on your credit utilization if you keep on adding to your balance. You might just make things worse.
Importance of a good credit utilization ratio
You may be wondering, why is it important to have a good credit utilization ratio?
Well, it has something to do with your credit score. Your credit utilization is second in importance when it comes to your credit score. So if you can improve it, that can have a huge influence on your credit reputation.
Here are the benefits that you will enjoy if you have a good credit score.
Makes you a low-risk borrower
If you want to be considered a low-risk borrower, you have to make sure that you have a good credit score. Having a good score means you know how to use credit properly. The creditors and lenders will know that you can be trusted with debt. They know that you will not abuse it and that you are responsible enough to pay it back.
Get better loan rates
This is connected to the first one. If you have a good credit score, it will help you get better loan rates. A report revealed that you only need a 760 credit score to qualify for the best rates.
You see, the interest rate reflects the profit that creditors make on the debt. If they think that there’s a high chance that you will not pay your debts, they will increase the interest rate. It’s their assurance that in case you don’t pay your dues, it will not be a complete loss because they were able to charge you with a high-interest rate.
But if you are a low-risk borrower, there’s no need for them to protect themselves from the chance that you will not pay them back. That means you can expect a low-interest rate.
Qualify for higher loans
A high credit utilization ratio means you have a lot of debt. In case you need to borrow a lot of money, you need to lower your balance. It’s not really that hard to understand why. If you have a lot of debts, it only means your income is already paying that debt off. When you add more debt to that, can your income cover all the payments? Remember that you also have to pay for other bills and expenses. The lender or creditor knows that. So they will probably not approve a loan application that involves a high amount.