The total amount you owe across all accounts reported to the credit bureaus is the second most important aspect of your FICO credit score. This is also known as your credit utilization, or the amount of credit you are using vs. the amount of credit you have. Your total debt level determines 30% of your credit score.
When you use a lot of your available credit by carrying high balances on revolving charge accounts like credit cards, it impacts your credit score. The credit bureaus see this as a sign that you are overextended, which could mean that you aren’t a good risk for potential creditors.
There are several different types of account balances and factors relating to the amounts owed that the FICO credit scoring model considers.
- The total amount of debt owed to lenders
- The total number of accounts with outstanding balances
- The amount of debt you owe on each individual account
- The percentage of total available credit in use from month-to-month
- The percentage of total debt owed on vehicle or mortgage loans
Red flags include a large number of accounts with balances and a large amount of debt relative to the amount of available credit. Keeping your total credit utilization below 30% is a great way to keep this part of your credit score healthy.
Understanding credit utilization ratios
For example, if you have three credit cards, with available credit of $500, $300, and $1,000 your total available credit is $1,800. If you carry a $700 balance on the card with a $1,000 line of credit, carry a $100 balance on the $500 card, and have a zero balance on the $300 card, you owe a total of $800.
Your total available credit is $1,800. Your total credit utilization is 44%, or $800/$1800. To get your credit utilization ration to 30%, which is $540/$1800, you’d need to pay down your credit cards by $260. You can also calculate what 30% of you debt is simply by multiplying, $1800 x .30 = $540.
In some cases, the credit issuer for one or more of your credit cards may agree to increase your available line of credit. This will also help your credit utilization ratio. For example, if the bank agrees to raise your credit limit from $1,000 to $1,700, your new total available credit would be $2,500. If you still owe a total of $800 across all three cards, your new credit utilization ratio would be 32%. By making an extra payment of $60, you could get your ratio below 30%.
This is also why you may want to keep unused credit cards opened. If you close an account, your overall available credit will drop, which will in turn increase your credit utilization ratio. Also, some people think opening several additional lines of credit will help their credit utilization ratio, but remember another area which is measured when calculating your FICO score is the length of your credit history. So opening several new accounts close together will lower the overall length of your credit history and could actually lower your score. Simply put, don’t open a line of credit unnecessarily.
How much you owe relative to the amount of the original loan impacts your FICO score for personal loans, mortgages, and car loans. Creditors look for signs that you are managing debt well, so if you are making on-time payments and your loan balances decrease over time, that’s a good indication that you use credit responsibly.
Amounts owed is a huge part of your FICO credit score. It’s also an area where you can see nearly immediate improvement if you pay down high balances or increase your credit limits and keep your spending low. Remember, maintaining you credit involves several factors, so make sure you understand how each works, and how each affects your score.
For more great information on all things credit-related, head to our 'Basics of Credit' reference page.