What will you do if your credit card limit decreases? Will it have an effect on your credit use? Because if it does, then you might want to pay attention to what’s happening to the financial industry right now.
Normally, when the economy goes into recession, financial institutions and banks tighten restrictions when it comes to lending. If you plan on borrowing a loan, it will be harder to get an approval. But what about credit cards?
Well, credit cards are considered revolving debt. That means you don’t have to keep on applying for a loan to use it. As long as you have not yet maxed out your credit cards, you can still use it.
So how do creditors and financial institutions restrict the debt acquired from these cards? They lower the credit card limit.
And that is what’s happening right now. According to reports, credit card issuers have started to scale back consumer credit lines. The article revealed that this is a normal reaction since a financial crisis causes banks to have less money to lend. Financial institutions also believe that during this time, credit card holders are more prone to missing out on payments. Lowering the limit of credit cards is their way of protecting their interests.
But what about that of credit card holders? What are the implications of lowering this limit?
Effects of a lower credit card limit
What happens if your creditor lowers your credit card limit? Well, it depends on how the limit was lowered. There are three different ways this can happen.
One is the purchase credit limit. This is probably the limit that most of us are familiar with. If you reach this limit, you can no longer use the card to make purchases. Whenever you try to use it, the transactions will be declined. The only way to use your card again is to pay off your balance.
The other type of limit is the balance transfer credit limit. If you plan on transferring your multiple debts into a credit card, you can only transfer as much as the limit will allow. This limit includes the balance transfer fee – which is usually 3% of the amount that you want to transfer. So if the limit is $10,000, you can only transfer 97% of that limit.
Finally, there is the cash advance credit limit. This has a significantly lower limit compared to what you have on your purchase credit limit. And the catch is, any cash advance that you will borrow will be deducted from the latter. That means if your purchase credit limit is $10,000 and you borrow a cash advance of $2,000, you can only use your credit card until you reach $8,000.
If the creditor decides to lower your credit card limit, these are the three ways that it can happen. But what effect will it have on your personal finances?
You hurt your credit scores
First of all, lowering the credit limit will end up giving you a bad credit score. Most of the effect will be on your credit utilization rate. This rate is the relationship between your balance and limit. The closer your balance is to your limit, the more it damages your credit utilization rate. The ideal rate should be 30%. Any higher than that and it affects your credit score negatively.
So if your limit is $10,000 and you have a balance of $3,000, your credit utilization rate is still 30%. But if your credit card limit goes down to $7,000 and your balance is still the same, your rate becomes more than 40%. That is enough to affect your credit score.
Your credit use is restricted
This is not really so bad – especially if you are having trouble being a smart credit user. But this is one of the effects of lowering a credit limit. You cannot use it to buy something that costs a lot. So if you are in the midst of a crisis, your credit card will prove useful to help you buy basic necessities and food for your family. If the limit is lower, you have fewer funds to spend. And that can make it harder for you to survive.
Sure, relying on debt is not ideal. But if you have nothing else, it can still help – as long as you understand that you are responsible for paying it back.
What to do if your credit limit goes down
Since the news revealed that creditors will be lowering the credit card limit, there is a possibility that your card will be affected. What will you do if your limit goes down?
Here are the things that you can do.
Determine the reason why
If you see that your limit went down, call your creditor first. You want to find out the reason why they lowered your limit.
Was it because you went beyond the limit? Sometimes, credit card companies lower the limit because the cardholder maxed out their cards. It’s part of the penalty to help promote a more responsible credit spending.
There are also external factors involved. For instance, the current recession prompted creditors to lower credit card limits to restrict its use. The goal is to lower the delinquency rates as people start to lose jobs and the ability to pay their loans.
If you know why your limit went down, it’s easier for you to determine your next steps.
Ask for your options
While you are talking to the creditor, ask them about your options. How can you increase your credit limit? Do you have to pay a specific amount on your debt? Or maybe you can enter an agreement with them.
Admittedly, the chances of them agreeing to raise your limit, especially if you do not have a good credit score. They will not give you a higher limit because you are a high-risk borrower. But nevertheless, it doesn’t hurt to ask. If you know how to negotiate, you might be able to convince them to increase your limit.
Be more aggressive in paying off debt
Whether the creditor allows you to increase your credit card limit or not, you have to find a way to aggressively pay off your debts. And if you look at the current report, a lot of people need to work on their credit card debts. In fact, 120 million have an existing balance, with 28 million admitting to increasing their balance because of the COVID-19 outbreak. But how will this help you with your credit limit?
Well, it is not a prerequisite to having your limit increased. However, it brings a couple of benefits that can indirectly affect it anyway.
For instance, if you pay off your debts, your balance will go down. It will give you room in your credit limit to make more purchases when it’s needed. Not only that, but if the creditor sees you working on your balance, it may convince them to give you a higher limit.
Look for other credit cards
Finally, you can also look for new credit cards from different creditors. There are other credit card companies that might have better terms, a lower interest rate, and a higher credit limit. You can apply to these companies. You don’t have to close your other card. But you can combine the limit to increase your purchasing power.
If you are also trying to negotiate with your current creditor, they might be easier to talk to if they know you are considering getting a new card with another company. They want you to be loyal to them. If it means they have to give you better terms, they will probably be more lenient with you.
While asking for a higher credit card limit will allow you to use more credit, you need to be cautious with this. You don’t want to abuse your use of debt. Because the more debt you have, the more you are compromising your finances – especially if you know that it’ll be hard for you to pay it off.