Credit utilization: what it is and why it matters

Your credit score plays a big role in your financial life, influencing what loans you can qualify for and how much you pay when you borrow money. If you’ve just gotten a new credit card, line of credit, or loan, you might wonder how it will impact your credit score, and you may have heard of something called credit utilization.

Credit utilization refers to the percentage of your total available credit that you are currently using. It is one of the many factors that influence your credit score, and keeping your utilization low can help keep your credit strong.

We’ll cover the key things to know about credit utilization and how you can use your understanding of credit utilization to improve your credit score.

How to calculate credit utilization

Credit utilization measures the percentage of your available credit that you are using. To calculate it, you can use this formula:

Total revolving credit balance / Total revolving credit limit

Imagine that you have three credit cards with balances of $1,000, $3,500, and $2,500 and credit limits of $5,000, $10,000, and $2,000. That means that you’re using $7,000 of your total available credit of $17,000 across all three cards.

That puts your credit utilization ratio at:

($1,000 + $3,500 + $2,500) / ($5,000 + $10,000 + $2,000)

$7,000 / $17,000 = 41%

What is considered a “good” credit utilization ratio?

Experts typically recommend that you keep your credit utilization under 30% of your total credit limit. When you use your line of credit at a higher rate or even go as far as to "max out" a line, it signals to lenders that you might be someone who has difficulty managing your finances or paying off your balances on time, and that could make it more difficult to get approved for future lines of credit.

Why is credit utilization important?

Credit utilization ratio is important because it is a useful tool for lenders to gauge the risk of lending money to someone. It also plays a role in determining your credit score.

Imagine someone coming to you asking for a loan, and you find out they’ve already maxed out their credit cards and gotten loans from a few other people. Sounds risky, right? If that same person instead had manageable balances, it wouldn’t seem so risky.

Maxing out your lines of credit makes lenders think twice before approving your application for a loan because it seems like you’re in tough financial straits or borrowing irresponsibly. Paying down your loan balances can reduce your utilization and make you a more appealing borrower. Keeping utilization below 30% is ideal for appearing like a responsible borrower and keeping your credit score high.

Tips for managing your credit utilization

Managing your credit utilization and keeping it low is important for having strong credit. Building good financial habits is key to keeping your credit utilization under control.

Monitor your balance carefully

The first step to making sure that you’re effectively managing your credit utilization is to keep a close eye on the balance for every line of credit you use each month. Tracking your balance throughout the month can not only be a useful way to make sure you aren’t going over 30% usage, but it can also be a way to pinpoint certain spending habits you might have that could be reduced or omitted entirely to ensure a lower credit utilization rate.

Many lenders also give their borrowers the option to set up email or text alerts informing them of their balance status. This can make it even easier to maintain a consistent sense of whether your remaining balance reflects a credit utilization rate above or below 30% than if you were to manually check your balance every week or two.

Set consistent payment dates

When it comes to paying your debts, consistency is key. Making a payment each month, before or on your loan payment’s due date, will help you avoid late fees and help build credit.

That consistency can also help make managing your debt a habit. If you set one or two dates each month where you try to pay off as much of your credit card balances as possible, it’ll build a habit of paying your bills. It’ll also keep your balances low, keeping your utilization in a healthy range.

Increase your credit limit

In some instances, asking your lender to increase the amount you’re able to borrow on your line of credit can actually help lower your credit utilization rate. So long as you’re able to continue to keep your spending in check, having a larger line of credit at your disposal can oftentimes make it easier to keep your utilization under 30%.

If your credit score is a little too low for lenders to be willing to increase your limit, you could also consider asking a family member or close friend with a better credit score and a more established credit history to co-sign on a line of credit with a higher limit with you. This is a major decision to make, as your credit habits would directly impact the co-signer’s credit score – but if you feel confident that you can commit to having good credit utilization practices on a consistent basis, it could be a beneficial option for both you and your co-signer. That said, not all credit issuers allow co-signers, so make sure to do your research when pursuing this option.

Consider opening new lines of credit

Remember that your credit utilization ratio compares your credit card balances to your credit card limits. If you open a new credit card, you’re adding to your overall credit limit. As long as you don’t add on more debt by using the card and not paying it in full, you’re reducing your credit utilization.

Keep in mind that applying for a new credit card requires solid credit and that you’re likely to see a short-term drop in your score, especially if you apply for and open multiple accounts at once. You also have to be responsible and avoid racking up a balance on the new card, or your credit utilization won’t really fall at all.

One tip for avoiding overuse of credit cards is designating each card you have for specific purposes. One card can be for groceries, another for gas, and a third for emergency use only. You may also designate a personal loan or line of credit for consolidating expensive debts. This can help you avoid overspending.

The bottom line: Credit utilization is a marker of financial responsibility

Credit utilization is a measure of your total revolving debt compared to your total revolving credit limit. The lower your utilization, ideally under 30%, the better. Maxing out your cards can damage your credit and make it harder to qualify for loans.

Building good financial habits, like not overspending on your credit cards and paying your bills in full each month, is a good way to manage your credit utilization. You can start by exploring our Financial Smarts content in the Rocket Loans Learning Center.

If you’re trying to get your credit card balances under control, debt consolidation is one option. You can apply for a personal loan with Rocket Loans today.