The term credit utilization is widely misunderstood. So let’s begin by defining it.
Credit utilization is the measure of how much credit is available to you. Why does it matter? It matters, because many lenders and underwriters determine if your business qualifies for a loan based on this measure. Here are the facts you need to know about credit utilization:
Credit Utilization Ratios
The ideal credit utilization ratio is 30%. This ratio is calculated by dividing how much credit you have used by how much credit you have available. A ratio of over 30% is considered to be risky, which can result in disapprovals from lenders. This ratio can also affect your ability get a business loan.
Here’s a simple example: If you have a personal credit card with a $2000 limit and you have a balance of $800, then your utilization is 40%. Since this is over 30%, you will be considered more risky to a lender and have lower chances to get approved for the loan your business needs.
How to Improve Your Credit Utilization Ratios
You can easily improve your ratios by being aware of how much you’re charging to your credit cards. Try not to use more than 30% of the limit. You can also ask to have your limits increased on your credit cards, simply by calling your credit card provider. Setting up alerts is also a great way to make sure your credit card spending is monitored and payments are made on time or in advance.
Spread Out Your Credit
Your credit utilization ratio is based on your total credit limit and total balance, so having several credit cards with a low balance may actually improve your ratio. Even if you don’t use a credit card regularly, you should not cancel it. This will only reduce your available credit and make your ratio higher. It is also not a good idea to open an extra credit account or credit card, since it will not automatically improve your credit score.
The Secret to Maintaining Favorable Utilization
The secret to maintaining the 30% or below credit utilization is simple. Set up automated payments and this will guarantee your payments are made on time. You can also set up email notifications from the credit card companies to notify you if your credit utilization exceeds 20%. By making timely payments to your personal credit cards and staying notified of your balances, you will surely improve your credit utilization ratio.
Another fool proof tip is to make two payments in one billing cycle. In this case, you are always ahead of schedule and prepared for a rainy day. You also want to find out the date in which your credit card company reports to the credit bureaus and make sure you pay your balance to below 30%, before the data is reported to the agencies.
Moral of the Story – Don’t overuse your credit
You should not use all of the available credit on your card. It is important to understand that lenders use this ratio and determine how responsible you are. Don’t overdo it. Be responsible in monitoring your personal credit, so that your business can easily qualify for loans in the future.