How Much Of Your Credit Card Limit Should You Use?
It can be exciting when, signing up for a new credit card, you discover that the bank is offering you a higher borrowing limit than you first anticipated. Recognizing that, with your three credit cards, you could borrow half of your annual salary is exhilarating. However, just because a credit card allows you to borrow $10,000 doesn’t mean that you should.
Maxing out your credit card is not only harmful for your financial position, but also for your credit score. Although making faithful payments is an essential aspect of maintaining your credit rating, leaving no wiggle room for emergencies suggests a failure to manage your finances intelligently – which will hurt your credit score.
The Best Debt-to-Limit Ratio to Maintain a High Credit Score
The smartest credit card decision is to pay off your entire bill every month. Because of the exuberant interest rates that credit card companies charge, every month that a balance remains on your card can significantly reduce your future financial position.
However, if you must retain a balance on your credit card, it’s best to keep the balance below 25-40% of the borrowing limit of your card. Therefore, if you have a $5,000 credit limit on your card, keep your balance below $2,000 to protect your credit score from being damaged.
The Benefits of Maintaining a Low Balance on Your Credit Card
Financial institutions are more willing to lend to people who have proven that they are able to effectively manage their budgets and debt. Therefore, when you are permitted to borrow up to $30,000, but keep your balance at $10,000, you demonstrate self-control and discipline – giving financial institutions more confidence when lending to you.
In addition to maintaining your credit score, keeping your credit balance low provides a financial cushion in case of an emergency. Although you never want to use all of your credit limit, if an unforeseen circumstance arrives, having room to borrow more can make the difficulty much easier to overcome. Having maxed out credit cards, and then losing your job, can make bankruptcy almost inevitable. However, if you are able to borrow enough to cover living expenses for another few months, you can provide for yourself and your family until you are able to secure another job.
One Card vs. Many Cards
Some financial gurus suggest that, if you find yourself with extensive credit card debt, you should transfer all of that debt to a single card and cancel the rest. There are pros and cons to this decision.
There are a couple of benefits to placing all of your debt on one card and cancelling the others. Firstly, you can protect yourself from your own lack of self-control. If you are unable to keep yourself from maxing out your credit limit, transferring your debt to one card will prevent you from continuing to overspend. Secondly, if one of your cards has a much lower interest rate than the others, transferring your debt can result in significant savings over time.
However, if you can control your spending and all of your cards have similar interest rates, it is far better to maintain several credit cards. Firstly, it’s better to keep your balance below 40% of your credit limit for each one of your credit cards. If all other things are equal, splitting your balance between two cards to keep their balances far under half of the cards’ credit limits will keep your credit score higher. Additionally, by keeping all of your credit cards, you maintain a safety net in case of an emergency. Having the opportunity to borrow more can alleviate many short-term pressures that can come from a lost credit card, a car failure, or an urgent trip to see a sick relative. Therefore, if you can control your spending habits, maintaining multiple credit cards will keep you in a more financially secure position.