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How Important is Your Debt to Limit Ratio?

By , October 11th, 2008 | 10 Comments »

We are under constant media barrage about checking our credit report and we all know it’s important to have a high credit score. With the new legislation, it’s possible that a great credit score will be more important than ever. But does the average Joe really understand what goes into the calculating of a credit score? I know I didn’t until I started researching it.

I was surprised to find out that your debt to limit ratio has a 30% impact on your credit score. Only your credit history has a higher effect on your credit score as can be researched on sites like creditcardsguidance.com.

Debt to income ratio is sometimes called debt utilization. Basically, it is the percentage of overall debt you owe compared to the total amount of your available credit lines (not the amount of credit that you have).

Let’s say you have several credit cards and your total available credit line is $100,000. Now you have shown tremendous restraint and only owe $10,000 on those cards. So you are using 10% of your available credit line. Anything under 30% debt utilization is considered very good and will help you attain a high credit score. But, if you had loaded those same cards up with $80,000 worth of debt, you would be at 80% debt utilization and negatively considered a credit risk.

There are some things you can do to increase your debt to limit ratio. The most obvious is to pay down your debt. However, one thing consumers often do as soon as they pay off a balance on their credit card, is close the account. This may not be in your best interest if you are trying to raise your credit score. Closing an account lowers your total available line of credit. If you leave the account open with a zero balance, the credit scoring system thinks you are a financially responsible individual because your debt to income ratio is low.

There is a lot of controversy over closing unused credit card accounts. Some financial gurus are adamant about it. They say you should close the account so you won’t be tempted to overspend. But the truth is that you need to decide for yourself whether this will fit into your financial goals. If you are going to purchase a house or car anytime in the next year or so, you may need to depend on a high credit score and closing unused credit lines can lower your debt to income ratio.

You should also be aware that if you are debt free and have no line of credit open to you, your credit score will be lower than someone who has a small amount of debt and larger lines of credit. Of course, if you are debt free and have a million dollars or so in the bank, you won’t have to worry about your credit score or debt to income ratio.

Another way to lower your debt to limit ratio is to increase the amount of your credit lines. You can do this by calling your credit card company and asking them to raise your credit limit. Be sure to ask them if they can do this without pulling a new credit report on you. Credit inquiries constitute 10% percent of your credit score. Then, after they raise your limit, don’t spend any extra. Try to keep your balances low and spread out across several credit lines. Don’t go overboard when asking for increased credit lines. A high credit limit can be viewed as possible debt and has the potential to count against you.

The thing to remember about your debt to limit ratio is that the credit scoring system doesn’t look for a specific dollar amount. They look at how much debt you have, compared to how much credit is available to you.

How important is your debt to limit ratio? That depends on where you are in your financial life. Do you want to buy a house someday? Do you expect to pay cash for that house or are you going to need to finance it? I don’t know anyone who can afford to pay cash for a house. Whether we like it or not, having a good credit score has become an integral part of our financial lives. Since your debt to income ratio is a significant part of your credit score, it must be considered very important.

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  • TJ says:

    Are you sure you have your terms correct? “Debt to income ratio” I believe is the amount of money you owe each month (mortgage payments, car payments, etc) vs the amount of money you earn each month. It’s different from “debt utilization” which is what your article is referring to.

  • M. Beddingfield says:

    Hello TJ, You are correct, I do have one word wrong. It should read Debt to Limit Ratio. I’m sorry for any confusion that this causes. Debt to income is entirely different then what this article is about.
    M. Beddingfield

  • Andy says:

    M. the term I use is C.U.R. or Credit Utilization Ratio. It’s the ratio of credit used/credit limits. Industry folks tend to use “balance” instead of “debt” because it’s a more accurate description of the short term nature of what’s being measured. FYI, I developed my credit expertise running the myFICO.com business before I started VideoCreditScore.

  • kiran says:

    I have a question regarding the time of the billing cycle when the balance is considered to be debt. My situation is like this: I had to pay off my grad tuition, so I used my credit card to do so. Having a limit of 1000$, i paid the fees 900 dollars at a time, and immediately paying of the balance on the card as soon as it showed up on my online account(usually in 3 days). So doing this i have ended up with two months wherein my credit usage for a month has been 3500. But at the end of the billing cycle i had a balance payment of 40$ only as I had paid up the rest of it in between. So the question is, what would be considered my debt, 40 (balance at the end of the month)or 3500(total for the month).

    Also to add to the above scenario, if 40$ is taken to be debt, would it be a good idea to pay off the balance every 8 to 10 days or so, to be on the safe side of these companies.


  • Angela says:

    I’ve been researching credit line increases today, looking for an answer to the same question Kiran has asked. If you find the answer, would you mind posting it? Thank you!

  • M. Beddingfield says:

    kiran and Angela,
    From what I have read, I believe the debt to income ratio is on your monthly credit card balances. Here a few sites you can read about it and draw you own conclusions. http://biz.yahoo.com/cnnm/080925/092508_credit_limits.html?.v=2


    Or maybe someone else out there might have a better answer?

  • kiran says:

    Thanks for the reply Ms Beddingfield. But on reading the links provided by you I still could not get a clear picture as to what would be taken as the debt for a month. Ive asked the same question in the biz.yahoo page. If I get an answer from there I will update it here.


  • kiran says:

    Hey guys,
    I got an answer to my question from the blog http://www.creditbloggers.com/2008/02/reader-question.html
    This is the reply I recieved
    “in your case the amount reported to the credit bureaus as your balance would be $50. However, you will probably be charged interest on the $3650 balance. Most credit cards calculate their interest charges using the

  • KG says:

    Your debt to limit ratio is also done on an account by account basis. So consolidating debt to one credit card can actually hurt a credit score even though the total utilization has not changed. Most consumers don’t realize this.

  • Ernie says:

    I don’t think this phrasing is correct – “There are some things you can do to increase your debt to limit ratio. The most obvious is to pay down your debt.”

    Won’t paying down your debt *decrease* your debt to limit ratio, not *increase* it? Did you mean to say “improve” instead of “increase?”



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