Whether you are 18 or just received your first credit card, you are still 60 years old and your wallet is full of credit cards. It is tempting to charge as much as possible. However, you should beware of such a move. Regular use of credit cards and paying on time can help you build a longer, more complete credit history. But holding any type of balance is risky, especially the large balance associated with your credit line.
This article is part of a series of articles about understanding your FICO credit score, and we'll delve into each component that details your credit score calculation. In the first part of this series, you learned that the payment history has a big impact on your FICO credit score. In this article, you will learn about the next biggest factor in the FICO score, the amount you owe in each credit account.
Part 2: Arrears (30%)
The second most important contributor, 30% of your credit score, is the amount you owe on your existing credit line, also known as your utilization. This factor takes into account both the arrears of all your credit accounts and the arrears of each account. It can also consider the amount of your actual arrears and the relative amount compared to your credit line or usage history.
For example, if you have a $5,000 credit card and you spend $2,000 a month, the card usage is 40%. The optimal utilization is generally below 25-30%. Even if you pay this balance in full every month, the bank usually reports your statement balance (the number shown on your bill). But be careful - if you pay off the full balance before the end of the settlement period, the bank may not report any balances - this is not necessarily good for you. Low utilization is better than no (or high utilization) at all, because it shows that you have managed credit responsibly.
Similarly, the number of accounts with higher balances will also affect your score. For example, having five high-utility credit cards is worse than having a high-utility credit card.
A lot of money yourself doesn't necessarily mean a high-risk borrower, but if you're close to maximizing your use of one or more credit lines, the lender may think this is a warning sign that you are over-expanding. So if you are planning a wedding, a big vacation, or some other expensive effort, consider allocating the cost to multiple cards, even paying the balance immediately before and after you make a big purchase.
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You may have seen a branded credit card with a sports team or a non-profit organization. These credit cards are called affinity credit cards—a type of credit card that a credit card issuer works with an organization (usually a non-profit organization). People choose an affinity credit card to show their loyalty to the organization, or because of the use of credit cards to help the organization. The partnership between credit card issuers and organizations helps promote credit cards to attract more customers, especially when the organization has a large audience.