Why Your Credit Utilization Is So Important

By Melanie Lockert
August 11, 2020

When it comes to credit scores, the more you know, the more you can build!

We usually hear about the importance of paying bills on time – and how that has the largest impact on your credit score. But something that’s not as commonly known is the power of your “amounts owed” – which determines your credit utilization. If you haven’t heard the term “credit utilization” – we’re here to break down what you need to know.

  1. What is credit utilization?
  2. Why your credit utilization percentage matters
  3. What is the ideal credit utilization?
  4. How to improve credit utilization
  5. Utilize credit the right way

What is credit utilization?

In simple terms, credit utilization refers to the amount of credit you are using out of the total credit available to you. It’s typically calculated as a percentage of your available credit and signifies the amount of credit you owe. 

The cookies analogy 🍪

Let’s say you have a jar with 10 cookies, and you eat 3 of them. That means you ate 30% of the cookies available to you. 

The credit you are using would be the 3 cookies you are eating and your total credit limit would be the jar with 10 cookies, therefore your credit utilization would be 30%

In summary, there are two specific factors that contribute to your credit utilization:

  1. How much credit you’re using (or cookies you’re eating)
  2. Your total credit limit (or total cookies in the jar)

Your credit utilization percentage is used as a marker for lenders to determine if you’re a “creditworthy” borrower. In other words, should they give you money to borrow and, if they do, what are the chances you’ll pay it back? 

☝️ Your credit utilization percentage one of the ways lenders can determine if you’re a “creditworthy” borrower.

Why your credit utilization percentage matters

When looking at your credit history, your “amounts owed” makes up 30% of your credit score. A close second to “payment history”, which makes up 35% of your credit score.  

That’s because, when considering approving or denying an application for credit, lenders use this percentage to assess the risk. 

Your “amounts owed” gives lenders an idea of how dependent you are on credit. If you use a lot of the credit that is offered to you, the lender will likely consider you to be a higher risk.

🍪 For example, if you were offered the jar of 10 cookies and chose to eat them all, it might seem like you can’t be trusted with a whole jar of cookies again. But if you only ate 3 of them — even though 10 were offered to you — you appear to be less risky. 

In other words, lenders want to know you have some restraint, sense of responsibility, and financial stability and that you won’t eat the whole jar of cookies in one sitting!

😱 Did you know?Chime's Credit Builder card offers no fees, 0% APR and doesn't report on credit utilization?

What is the ideal credit utilization?

So, if lenders don’t want you to “eat all of the cookies in the jar”, what’s a reasonable amount? What is a good credit utilization ratio? 

A rule of thumb that some go by is sticking to below 30%. So if you have a $1,000 credit limit, you would carry a balance of less than $300. As another example, if you have 10 cookies in the jar, you’re eating less than 3. 

But, for even better results, you might want to use even less. According to credit bureau Experian, “People with exceptional credit scores (800 or higher on the FICO® Score☉ range of 300 to 850) tend to keep utilization under 10% for each card and for total credit card use.”

In other words, the lower the better when it comes to credit utilization. If you’re maxing out your credit card and pay it in full and on time, that’s great. But it won’t help your credit utilization, which still makes up 30% of your score. 

☝️ Remember Try to keep your credit utilization below 30%

How to improve credit utilization

If using too much credit — aka high credit utilization — is affecting your credit score and you’re working on building credit, there are two things you can do. 

  1. Lower your balance. That means using less of your available credit and keeping tabs of how much you owe.
  2. Increase your credit limit. Typically, you can do this by applying for a new credit card or seeing if you can get a limit increase on your current cards. 
  3. Try a credit card alternative. Unlike traditional credit cards, Chime’s Credit Builder card has 0% APR and $0 in fees. Credit Builder also doesn’t report percent utilization to the major credit bureaus because it has no pre-set credit limit. That means spending up to the amount you added will not show a high-utilization card on your credit history.

When you apply for a new credit card, your credit score may drop slightly. That’s because there’s a “hard inquiry” — where a lender does a full check on your credit to review your creditworthiness. Luckily, it recovers pretty quickly if you use that increased limit to your advantage instead of charging more on the card. Overall, having a higher credit limit and lower balance will improve your credit utilization ratio, which is a good thing! 

Utilize credit the right way

Building credit can feel like a bit of trial and error. Of course your payments are important, but don’t forget about the effect of your credit utilization. Just think of the jar of cookies. Do you want to get sick by eating them all or just enjoy a few? Being responsible and maintaining low balances can be a good step toward improving your credit. You got this!

Chime’s new Credit Builder is a no fee, 0% APR secure credit card that allows you to build your credit.

Melanie Lockert is the founder of the blog and author of the book, Dear Debt. Her work has appeared on Business Insider, Time, Huffington Post and more. She is also the co-founder of the Lola Retreat, which helps bold women face their fears, own their dreams and figure out a plan to be in control of their finances.

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