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- Credit utilisation ratio and how it affects your credit score
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Credit Utilisation Ratio: The number that shapes your credit score
Are you paying your bills on time, but still have to deal with a low credit score? The problem could be your credit utilisation ratio. Understanding this ratio can help you manage your credit more effectively and improve your score.
What is credit utilisation ratio?
The credit utilisation ratio can be defined as a financial device that helps gauge the amount of credit you’re utilising when compared to the total credit available.
Let's assume that your current credit limit is ₹1 lakh and your average monthly spend is ₹40,000. In this case, since you're using up 40% of your credit limit, your credit utilisation ratio can be calculated as 40%.
This is an important metric that credit bureaus, such as CIBIL, use to calculate your overall CIBIL score.
Importance of credit utilisation ratio
Your credit utilisation ratio makes up roughly 30% of your total credit score. Most financial institutions consider a high credit utilisation ratio to be a red flag. It shows that you are dependent on borrowed money and raises the risk of defaults. On the other hand, if you have a low credit utilisation ratio, it indicates that you are financially responsible.
What’s the ideal credit utilisation ratio in India?
- It is usually recommended that you aim to keep your credit utilisation below 30%.
- If you constantly max out your cards, even if you pay off the entire bill, the credit bureau may mark you as a risky candidate.
- For example, using ₹90,000 of a ₹1 lakh limit every month creates a 90% utilisation.
- Even with full repayments, this can pull your score down over time.
Conclusion
Credit bureaus closely track spending patterns. A spike in credit card utilisation could signal financial stress and cause your credit score to drop. Conversely, when you maintain a low credit utilisation ratio, it can help you build a positive credit history over time.
Start by monitoring your monthly credit card statements closely. Set alerts when you hit 25% of your available spend limit. Use credit as a smart tool, not a backup plan.
Disclaimer: This article is for information purposes only. The views expressed in this article are personal and do not necessarily constitute the views of Axis Bank Ltd. and its employees. Axis Bank Ltd. and/or the author shall not be responsible for any direct/indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision.
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