Credit Utilisation Ratio, simply put, means the amount of credit you use against how much is available to you. If you have credit cards, you can easily calculate this by dividing your total credit card outstanding balance by your total credit limit. For example, if you have two credit cards with a total credit limit of `5 lakh, and your outstanding due on one of them is `2 lakh and `50,000 on the other, this means your Credit Utilisation Ratio is 50%.
This ratio is one of the most important factors that determine your Credit Score, which a bank or any institutional lender will look at when he reviews your application for a loan or credit card.
It is recommended to keep your credit utilisation ratio below 40%. Lower credit utilisation ratio indicates responsible behaviour with credit, and that you don’t depend on it heavily. A low Credit Utilisation Ratio has a positive impact on your Credit Score and is looked at favourably by lenders when you apply for any kind of loan or credit card. On the other hand, if your Credit Utilisation Ratio is usually high, lenders may consider you as a risky profile.
If your Credit Utilisation Ratio breaches 40% frequently, here are some useful tips you may consider:
Pay your outstanding balance
The higher outstanding balance you carry on your credit cards, the higher will be your Credit Utilisation Ratio. If you carry outstanding balances from previous billing cycles, you must try to get rid of it first. Opting for a balance transfer, converting outstanding dues or purchases into EMIs are ways to pay off your credit card debt systematically, in case you are unable to pay off your credit dues in full and on time. Paying off your outstanding dues will re-open your total card limit.
Keep checking your credit card outstanding
Just paying your credit card outstanding in full and on time is not enough for a healthy credit score. How much of the available credit do you use on a regular basis is also important. To keep your Credit Utilisation Ratio healthy, find out total credit limit on your credit cards and then set a threshold on your spends at 40% of that limit. Make it a habit to check your outstanding dues regularly.
While breaching the Credit Utilisation Ratio of 40% a few times doesn’t impact your credit score, doing it regularly can bring it down. Rely on cash, debit card, net banking, etc., for your spends, wherever possible, if your Credit Utilisation Ratio is high.
Increase your credit limit
You can also choose to lower your Credit Utilisation Ratio by asking for an increase in credit limit. For this, you can call up the bank and request for an increase in the limit on your credit card. Few banks also enable you to send the request by logging into the net banking portal.
Alternatively, you can also apply for a new credit card for a better Credit Utilisation Ratio, if you depend heavily on credit. But do note that applying for a new credit card will result in a hard inquiry, which means the new credit card issuer will check your credit score while reviewing your application. If your credit score is low, the bank may decline your application for the new card.
Do not close any credit card
There are chances that we may have old credit cards that are active, but hardly ever used. Do not close a credit card if your Credit Utilisation Ratio is high. Idle limit on unused credit card assists helps lower your Credit Utilisation Ratio, thereby improving your credit score. Closing an old credit card shortens your credit history, along with bringing down the total credit limit available to you, which increases your Credit Utilisation Ratio.
Sahil Arora is VP & head, Payment Products, Paisabazaar.com