Bursting the Credit Score Myths: Lowering Your Credit Limits Can Help Your Score
This is Part 2 of Lita Epstein's series Busting the Credit Score Myths. For Part 1, check out Closing Cards to Improve Credit Score. Be sure to check back with WalletPop for the rest of the series later this week!
Lowering your credit limits definitely will not help your credit score. In fact in most cases this request will likely hurt your credit score. That's because credit scoring companies use what's called the debt utilization ratio.
The way this works is that the credit card company will total all your credit limits. Then it will total your outstanding debt. Suppose you have $20,000 total credit available to you on four cards of $5,000 each. You carry a total of $6,000 in debt on those cards. The debt utilization ratio would be 30% ($6,000/$20,000).
Now suppose you close one of those cards and your total credit available is $15,000 but you still have $6,000 in debt. Now your debt utilization ratio would go up to 40% ($6,000/$15,000). That move could actually lower your score by 50 to 100 points because it looks like you're getting yourself into deeper credit trouble when the credit scoring agency computers calculates the debt utilization score.
If you want to improve your credit score, don't close cards, but do pay down your debt as quickly as possible. People with a debt utilization score of 10% to 20% get the best credit scores as long as they are paying their cards on time.
You do need to use credit cards even if you pay them off each month. If you don't have a credit history you'll find it very hard to get a major loan when you need one.
Lita Epstein has written more than 20 books including the Complete Idiot's Guide to Improving Your Credit Score.