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Racking up too high a credit card tab could hurt your credit score. Read on to see why.
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It’s important to keep your credit score in top shape so you come off as a less risky borrower to lenders. That way, you’re more likely to not only get approved to borrow money when you want to, but also lock in favorable interest rates on upcoming loans, whether it’s an auto or mortgage loan.
For this reason, it’s important to understand the factors that go into calculating your credit score. Your credit utilization ratio is one of them. And once you recognize how it works, you may come to realize why it’s important not to charge too many expenses on a credit card at once.
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Too high a credit card balance could hurt you
Your credit utilization ratio comprises 30% of your credit score. So as you might imagine, it’s important to keep that ratio in good shape.
Your credit utilization ratio represents the amount of available revolving credit you’re using at one time. If you have a total spending limit across your credit cards of $10,000, and you have outstanding balances of $2,500, that puts you at 25% utilization.
Your credit score can start to take a hit once your utilization ratio exceeds the 30% mark, whereas a lower utilization ratio can help your score improve. If you charge many expenses on a credit card but pay off your balance in full, that generally won’t hurt your credit score. It’s when you charge lots of expenses and carry a balance forward that your credit score can start to decline — especially if you’re beyond that 30% threshold.
How to lower your credit utilization ratio
There are two steps you can take to lower your credit utilization ratio and help your credit score improve. First, you can pay off a chunk of existing credit card debt. If you owe $3,500 on a total credit limit of $10,000 but manage to chip away at $500 of that total, you’ll be back into that more favorable 30% utilization zone.
Another option for lowering your credit utilization ratio is to ask your credit card issuers for a spending limit increase. If you manage to get a $10,000 spending limit across your cards raised to $12,000, then a $3,500 balance puts you at around 29% utilization.
The danger in going this route, though, is that a higher spending limit might tempt you to spend more on your credit cards. And that might not only hurt your credit score from a utilization standpoint, but also, create a scenario where you end up losing a lot of money to credit card interest.
All told, charging a large number of expenses on a credit card isn’t so problematic when you’re paying your bills in full. It’s when you charge too many expenses on a credit card that your score has the potential to take a hit. So it’s best to avoid that, and a good way to do so is check your balances every week.
If you see them getting too high for comfort, stop spending. Keeping yourself in check could not only help your credit score, but spare you the stress and cost of debt.
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