Credit card usage: What is it and how does it affect your credit score?

As a credit card user in India, it is essential to understand the key metrics that can affect your financial health. One of the most important is the credit card utilization rate. This article will explore what credit card usage is, how it affects your credit score, and practical steps to manage it effectively.

What is the use of credit cards?

Use of credit card, or credit utilization ratiois 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, its utilization rate is 30%.

Maintaining a low credit utilization ratio is crucial because it reflects your credit usage habits and influences your credit score. High utilization may indicate to lenders that you may be financially overstretched, which may reduce your chances of obtaining favorable loans or interest rates.

How to Reduce Your Credit Card Usage Rate

1. Limit your expenses

To reduce your credit utilization rate, start by limiting your credit card spending. If you frequently use your credit card for purchases, your utilization rate will increase. Consider using a combination 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 utilization rate low.

2. Make timely payments

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

3. Request a credit limit increase

If your financial situation allows, consider applying for a higher credit limit from your bank. A higher limit increases your total available credit, which can lower your utilization rate if your spending habits remain the same. Be careful, though: If you increase your spending along with your limit, the ratio may not improve.

4. Control your expenses

Periodically review your credit card transactions and pending balances. This practice is especially important if you have multiple cards. Tracking your spending will help you avoid exceeding your credit limits and maintain a healthier utilization rate.

5. Consider opening new credit accounts

Opening a new credit card can also improve your utilization rate by increasing your total credit limit. Be careful, however, as applying for new credit can cause a temporary drop 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 utilization rate. Even if you don’t use them frequently, they contribute to your total credit limit. Just make sure these cards don’t have high annual fees that could become a financial burden.

How does credit utilization affect my credit score?

Credit utilization plays a large role in calculating your credit score and accounts for approximately 30% of your overall score. Lenders generally prefer a utilization ratio below 30% as it indicates responsible credit management and lower credit risk. A high ratio can negatively impact your credit score, making it difficult to obtain loans or attract favorable interest rates.

In conclusion, understanding and managing your credit card utilization rate is essential to maintaining good credit score and guarantee 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 dangers of poor financial management. Always be aware of your credit behavior and prioritize responsible use to safeguard your financial future.