Summary: Your available credit (like a credit limit on a credit card) and how much of it you've used affect your credit score. Read on to understand available credit and how to manage it to maintain a good credit score.
Available credit is a term used for any revolving type of credit and represents the difference between the amount you’ve used and the account’s assigned limit.
So what does available credit mean from a practical perspective? This article is here to help.
Understanding available credit on a credit card is especially important because it can affect your credit score and how lenders view you when you apply for a loan or another credit card.
Here’s what you need to know about the differences between your current balance vs. available credit.
If you have a credit card (a type of revolving credit), you may have heard the terms “available credit” and “credit limit.” While the two are connected, they’re not the same thing.
Your credit limit is the total amount of credit your financial institution allows you to use on the account, while your available credit is how much of that credit limit you've used.
For example, let’s say you have a balance of $5,000 on a credit card with a $7,000 limit. In this case, you have $2,000 in available credit. Once you use up all your available credit, your card’s issuer may start declining your transactions or slap you with an over-limit fee.
Because of the way installment loans are designed, there is no available credit involved. When you take out a $10,000 personal loan, for instance, you receive the full amount, minus any applicable fees, at the beginning of the repayment term and pay it back over time. There’s no option to pay some back and re-borrow that amount later.
If, however, you have a home equity or personal line of credit, that’s considered revolving credit, where you can use your available credit, pay it off to your lender and repeat. How a line of credit affects your credit history, however, can vary based on the type.
How much of your available credit you’re using at any given time is a major factor in your credit score. This is primarily because borrowers who tend to max out their credit cards, for instance, may have a difficult time managing their finances and are more likely to struggle with making debt payments to their lender(s).
To calculate how much of your available credit you’re using, credit scoring companies use a ratio called the credit utilization rate. This figure is calculated by dividing your current card balance by its credit limit. For example, if you have a $4,000 account balance on a card with a $5,000 limit, your credit utilization rate is 80%.
Credit scoring models typically calculate your credit utilization for each individual credit card, as well as all of your credit cards combined, and the higher your utilization rate, the more it could impact your FICO score negatively. The same goes if you have a personal line of credit.
Both the FICO® Score and VantageScore® credit scoring systems give significant weight to your handling of revolving credit. More specifically, they are sensitive to credit utilization.
If you have a home equity line of credit, or HELOC, however, how much of your available credit you use won’t be considered in your credit utilization rate.
“Despite some misreporting on the issue, and the fact that both are considered “revolving” debts, HELOCs are not counted when credit scoring models calculate the revolving utilization ratio on your credit card accounts, as a HELOC is not considered a credit card account. Therefore, the fear that a heavily utilized HELOC may negatively impact your credit scores in the same way a nearly maxed-out credit card account might is unfounded,” Equifax and FICO credit expert and author John Ulzheimer writes.
Keep in mind, though, that how your utilization rate affects your credit score can change from month to month. If you have a high rate one month, for instance, then consolidate your credit card debt with a personal loan or pay down a high credit balance, your credit score could bounce back as soon as that activity is reported.
Many credit experts recommend keeping your credit utilization rate below 30%, but there’s no hard-and-fast rule or threshold where your credit score will plummet once you breach it.
Instead, it’s best to simply keep your utilization rate as low as possible. There are a few ways you can do this successfully each month, especially with credit cards:
Increasing your available credit can not only give you more flexibility with your credit cards or personal line of credit, but it can also help boost your credit score by reducing your credit utilization rate.
There are a few ways you can increase your available credit:
It’s important to consider your situation to decide which one is best for you. Here are some ideas to consider about each option.
It may take some time, but paying down your credit card balances is one of the easiest ways to work on increasing your available credit. Depending on the situation, it may also be a good idea to avoid adding more debt to your credit cards to avoid taking two steps forward and one step back. Your available credit will increase as the credit card issuer applies each payment.
When you use a personal loan to consolidate credit card debt, you’re converting revolving debt into installment debt, eliminating the balances from the credit utilization rate equation.
Your available credit on your credit cards or line of credit will increase as soon as the debt is paid off. Your overall debt, however, won’t change. So you’ll still need a plan to pay off the consolidation loan.
If you’ve had your credit card for a while and have used it responsibly, you may consider requesting a credit limit increase from the card issuer. To do this, they may ask for current income information and run a hard credit check, which can affect your score. But if it helps your credit, it could be worth it.
Also, note that some cards even offer a credit line increase after you’ve made a certain number of on-time payments.
Adding another credit card to your wallet, along with its available credit, will increase your aggregate available credit. It won’t, however, affect the available credit on your other credit card accounts, so it won’t necessarily boost your credit score.
Whether you have a credit card or a personal line of credit, it’s important to keep an eye on how much of your available credit you’re using. Because your credit utilization rate has such a big influence on your credit score, it’s important to try to pay down your balances and employ strategies to keep them relatively low.
If you happen to rack up a big outstanding balance one month, however, don’t fret. As you work on paying down your debt and increasing your available credit, your FICO score should respond positively.
Ben Luthi is a personal finance writer who has a degree in finance and was previously a staff writer for NerdWallet and Student Loan Hero. See Ben on Linkedin.
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