Credit Card Utilisation: What is it and how does it affect your credit score?

As a credit card user in India, it’s crucial to understand key metrics that can impact your financial health. One of the most important of these is the credit card utilisation ratio. This article will explore what credit card utilisation is, how it affects your credit score, and practical steps to manage it effectively.

What is credit card utilisation?

Credit card utilisation, or credit utilisation ratio, is the percentage of your total credit limit that you are currently using. It is calculated by dividing your total outstanding credit card balances by your total credit limits. For example, if you have a total credit limit of ₹1,00,000 and an outstanding balance of ₹30,000, your utilisation ratio is 30%.

Maintaining a low credit utilisation ratio is crucial because it reflects your credit usage habits and influences your credit score. High utilisation can signal to lenders that you may be overextended financially, which can lower your chances of obtaining loans or favourable interest rates.

How to lower your credit card utilisation ratio

1. Limit your spending

To reduce your credit utilisation ratio, start by curbing your credit card spending. If you frequently use your credit card for purchases, your utilisation ratio will rise. Consider using a mix of payment methods, such as debit cards or cash, for regular expenses. By reserving credit cards for essential purchases and paying them off immediately, you can keep your utilisation ratio low.

2. Make timely payments

Always aim to pay your credit card bills on time, ideally paying off the full balance. Late payments not only incur interest but can also negatively impact your credit utilisation. If you cannot pay the full amount, at least aim to keep the outstanding balance as low as possible to maintain a ratio below 30%.

3. Request a credit limit increase

If your financial situation permits, consider requesting a higher credit limit from your bank. A higher limit increases your total available credit, which can lower your utilisation ratio if your spending habits remain the same. However, be cautious—if you increase your spending along with your limit, the ratio may not improve.

4. Monitor your expenses

Regularly check your credit card transactions and outstanding balances. This practice is especially important if you have multiple cards. Keeping track of your spending will help you avoid exceeding your credit limits and maintain a healthier utilisation ratio.

5. Consider opening new credit accounts

Opening a new credit card can also improve your utilisation ratio by increasing your total credit limit. However, be cautious as applying for new credit can result in a temporary dip in your credit score due to hard inquiries. Additionally, managing multiple cards requires discipline to avoid accumulating debt.

6. Keep old accounts open

Maintaining old credit card accounts can positively influence your credit utilisation ratio. Even if you don’t use them frequently, they contribute to your total credit limit. Just ensure that these cards don’t carry high annual fees that could become a financial burden.

How does credit utilisation affect my credit score?

Credit utilisation plays a significant role in calculating your credit score, accounting for about 30% of the overall score. Lenders generally prefer a utilisation ratio below 30%, as it indicates responsible credit management and lower credit risk. A high ratio can negatively affect your credit score, making it harder to secure loans or attract favourable interest rates.

In conclusion, understanding and managing your credit card utilisation ratio is essential for maintaining a good credit score and ensuring financial stability. By limiting spending, making timely payments, and keeping track of your credit limits, you can use your credit cards responsibly and avoid the pitfalls of financial mismanagement. Always be mindful of your credit behaviour, and prioritise responsible usage to safeguard your financial future.