When you’re trying to build – or rebuild – your credit score, it’s tempting to tuck away all your credit cards and avoid using them. But while avoiding a huge mountain of debt is always wise, shutting down your credit cards might not be the best path to a high credit score.
That’s because utilizing your credit cards is just as important as not using them. FICO, the king of all consumer credit scores, takes into account your ability to use and manage the use of available credit, not just how promptly you pay your bills or the amount of debt you rack up.
In fact, carrying balance on your card is often a smart move.
How much credit should you use?
For years, the rule of thumb was you shouldn’t use more than 30 percent of your available credit. So if the total of all your credit limits is $10,000, the total of all your balances shouldn’t be more than $3,000.
But these days, the amount of credit you can use while still maximizing your FICO score depends on how much credit you’re managing, says Greg Meyer, community relations manager at Meriwest Credit Union in the San Jose, Calif., area.
“If you have only one credit card, it would be difficult to maintain a high score if you use more than 30 percent of the card’s available balance,” he says.
But Meyer says a mix of installment and revolving credit in your financial portfolio allows for a little more flexibility. “If you have a car loan, a home loan, and couple of credit cards, you can utilize a higher level of open credit and still maintain a high score due to the other accounts you have,” he says.
“The goal is to not use 50 percent of the credit limits on your open credit cards and other open revolving accounts,” says Dorothy Barrick, Group Manager & Financial Counselor, GreenPath Debt Solutions in Troy, Mich.
Another goal is to make timely payments of your balances, no matter what percentage of the limit because FICO looks at your total credit usage as a factor in your score. “As you gain experience, manage your credit, have no late payments and have maintained credit cards and paid back balances, [and] you will see your score get stronger and more resilient and less effected by credit line usage,” says Meyer. “As a lender, we look at this data. It tells us if this person likes to pay off debt or live with it by paying their minimum payments.”
It’s not always easy
Sticking to balances that are under 50 percent of your available credit requires self-control.
“That’s not easy for some people,” says Barrick. “Some find the only way to avoid racking up credit card debt is to close the account.”
If you’re tempted to shut down an account to stop swiping the card, keep in mind that it can hurt your credit score, too. Barrick says closing a credit card means you’ll lose its limit. “That may have a negative effect on the score because this could put the total available limit closer to the total debt carried on the cards.”
Credit usage is just part of your credit score. Barrick says the other important factors are: timely repayment, collection accounts, credit applications (hard inquiries) and the age of credit history.