Credit scores are used in countless transactions every year, from credit card applications to mortgage loans to tenant screening. The VantageScore model is not used for this, but there are even specialized scoring models used for insurance underwriting. Widely recognized as important risk-management tools, credit scores are derived from data found in consumer credit reports.
One of the most important measurements in your credit scores is your percent of credit limit used.
As it pertains to your credit reports, this term most commonly refers to how you’ve leveraged your credit card accounts. (You can also measure utilization on installment accounts, such as mortgages and auto loans, but the figures for unsecured credit card accounts play a much larger role in determining your credit score.) The balances on your credit cards relative to the credit limits for each account is called revolving percentage of credit limit used or, more informally, the debt-to-limit ratio. The lower that ratio, and similar metrics, the higher your credit scores are going to be.
Percent of credit limit used is highly influential on your VantageScore credit score. For consumers
looking for best-practices guidance, VantageScore Solutions suggests not exceeding 30% of your credit limits.
Delving more deeply into this issue, scoring systems typically consider aggregate percent of credit limit used a highly significant metric. To calculate this, the model adds up the outstanding balances on all of your open credit cards and divides the total by the sum of the credit limits for those accounts.
Here’s an example of how the math works. A typical consumer, Ebenezer S., has four open credit card accounts on his credit reports.
- Card One has a balance of $1,500 and a credit limit of $3,500.
- Card Two has a balance of $750 and a credit limit of $1,500.
- Card Three has a balance of $0 and a credit limit of $5,000.
- Card Four has a balance of $0 and a credit limit of $3,750.
Ebenezer’s aggregate percent of credit limit used is calculated by dividing his total credit card balances ($2,250) by the total credit limits on all four of his cards ($13,750), which yields a very respectable ratio of 16%.
While this aggregate calculation is paramount to earning and maintaining solid credit scores, scoring
models also consider percent of credit limit used on a card-by-card basis. So, again referring to Ebenezer’s accounts:
- Card One, with a balance of $1,500 and a credit limit of $3,500, has a percentage of credit limit used of 43 percent.
- Card Two, with a $750 balance and a credit limit of $1,500, has a percentage of credit limit used of 50 percent.
- Cards Three and Four, with balances of $0 each, have percentages of credit limit used of 0 percent.
Scoring systems will penalize you for having too many cards with high percentages of credit limit used, so the goal is to maintain lower balances relative to your limits in all scenarios.
A few observations, in light of these facts:
- If Ebenezer were to close his two unused credit card accounts, his aggregate percent of credit limit used would jump to 45 percent, without any change in his overall debt level. That’s far from advantageous, and it’s one reason you often hear people advise against closing credit card accounts.
- Having multiple open credit cards, but only using one or two for purchases means your aggregate percent of credit limit used is effectively cushioned by the unused cards.
- Finally, if your percent of credit limit used on a single card starts to routinely exceed 30 percent, avoid the temptation to extend your spending to unused card(s), to maintain lower per-card percentages. Scoring models will penalize you for having too many accounts with balances over zero dollars, so you’re better off trying to lower the balances on the cards you use, while keeping one or two cards in reserve, unused.
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