Why Does Credit Utilization Matter? A Complete Guide

Credit utilization is an important factor that can significantly impact your credit scores. But what exactly is credit utilization and why does it matter so much? In this comprehensive guide we’ll explain everything you need to know about credit utilization, including how it’s calculated, ideal rates and steps to take to optimize this key metric.

What is Credit Utilization?

Credit utilization refers to the percentage of your total available revolving credit that you are currently using It is calculated by dividing your total outstanding revolving credit card balances by your total credit limits on those accounts.

For example if you have 3 credit cards with the following limits and balances

• Card 1: $5,000 limit, $2,000 balance
• Card 2: $10,000 limit, $5,000 balance
• Card 3: $2,000 limit, $0 balance

Your total credit limit across the 3 cards is $5,000 + $10,000 + $2,000 = $17,000
Your total balances are $2,000 + $5,000 + $0 = $7,000

Therefore, your overall credit utilization rate is:

$7,000 (balances) / $17,000 (total limit) = 41%

Revolving credit accounts like credit cards are typically used in the credit utilization calculation. Other types of credit like installment loans or mortgages are not factored in.

Why Credit Utilization Matters

Your credit utilization ratio is an important factor in calculating your credit score. Credit scoring models like FICO and VantageScore analyze your utilization to assess how well you are managing your available credit.

Lower credit utilization can improve your credit score because it shows lenders you are using your credit responsibly. It demonstrates that you can borrow a manageable amount and make payments on time each month.

On the other hand, high utilization can negatively impact your credit score since it indicates you may be overextended and at higher risk of missing payments.

Here are some key facts on how credit utilization is weighted in major scoring models:

• FICO: Utilization accounts for approximately 30% of your FICO score
• VantageScore: Utilization is around 20% to 30% of your VantageScore

So optimizing your utilization by keeping it low can provide a nice boost to your credit score. We’ll cover some tips on how to do that shortly.

What is a Good Credit Utilization Rate?

The ideal credit utilization rate is below 30%. This threshold is commonly recommended by credit experts as a benchmark to aim for.

The chart below shows average credit utilization by FICO score range, illustrating that lower rates correspond with higher scores:

As you can see, people with exceptional FICO scores over 800 tend to keep their utilization below 10%.

While 0% utilization may seem ideal, it can actually have a slight negative impact on your score since scoring models like to see at least some account usage. So a rate between 1% and 10% is considered optimal for credit scoring purposes.

How is Credit Utilization Calculated?

Calculating your overall credit utilization rate is straightforward:

Total Balances / Total Credit Limits x 100 = Utilization %

For example:

• Total Balances: $5,000
• Total Limits: $20,000
• $5,000 / $20,000 x 100 = 25% utilization

You can calculate utilization for each individual credit card as well. This per-card utilization can also impact your scores, along with your overall utilization rate.

Scoring models typically look at your utilization based on your latest reported card balances. So you may be able to improve your utilization quickly by paying down balances before they are reported.

Tips to Optimize Your Credit Utilization

Here are some tips to lower your credit utilization rate and keep it in the optimal range:

• Pay more than the minimum each month to chip away at balances faster
• Pay down balances before the statement closing date since that is typically when they are reported
• Request credit limit increases responsibly to lower your utilization
• Avoid closing old credit cards as this can decrease your total limits
• Open a new card only if you will use it responsibly and avoid high utilization
• Track utilization regularly and focus on keeping it below 30%, ideally below 10%

Monitoring services like CreditWise and myEquifax can help you keep an eye on your utilization across all your credit cards. This allows you to quickly catch any spikes and take corrective action.

The Takeaway

Your credit utilization ratio has a major influence on your credit scores. Maintaining a rate below 30% can benefit your credit profile, with the ideal range being 1% to 10%. By understanding what goes into the utilization calculation and tips to optimize it, you can take the right steps to level up your credit. Monitoring your utilization and keeping it low over time is key to building and protecting strong credit.

The 2/3/4 rule is a credit card application restriction specifically used by Bank of America. It limits the number of new credit cards you can be approved for within certain timeframes.

Yes, credit utilization still matters even if you pay your credit card balance in full each month.