How credit card debt affects your credit score

Too many people do not realize that the amount of debt you owe on your credit cards is one of the biggest factors affecting your credit score. That’s why it’s not a good idea to max out your credit cards. If your balance goes up to your credit limit you may see your credit score drop. And when your credit score eventually goes up, you may pay higher interest rates on other credit cards or loans. A lower credit score could also influence your applications for apartment rentals, phone plans and more.

So how do credit cards affect credit scores? Credit bureaus do not take your income into account when calculating your credit score. So even if you can afford to max out your credit cards, it’s not a good idea because there may be a negative effect on your credit score. When lenders see that your credit card(s) are maxed out, they may assume that you are living beyond your means.

How is your credit score calculated and how do credit card balances contribute?   Credit scoring calculations consider your credit utilization — the ratio between the amount of debt you owe on a credit card and the card's credit limit. Approximately 30% of your credit score is based on how much you owe or your amount of debt, which includes your credit utilization. According to Experian, credit utilization is the amount of revolving credit you're currently using divided by the total amount of revolving credit you have available. In other words, it's how much you currently owe divided by your credit limit. A low credit utilization rate, below 30%, shows you're using less of your available credit. Credit scoring models generally interpret this as an indication you're doing a good job managing credit by not overspending and keeping your spending in check can help you reach higher credit scores. As your credit utilization goes up you may begin to see your credit score drop because this may be interpreted as an indicator to lenders that you are having difficulty managing your finances.

Does paying off your credit card debt increase your credit score? A paid in full credit card has a positive affect even if you stop using the account. But if you close the account, your overall credit utilization increases, and your credit score can potentially decrease.

You may be able to improve your credit score if you pay down your credit card balances. Even if you don't reduce your aggregate credit utilization rate down to less than 30%, getting it down to as close to that as possible will have a positive impact. Any effort to pay more than the minimum payment on your cards each month might result in an incremental improvement of your credit score if you're doing other things that have a positive impact, such as paying bills on time or early and keeping your debt to a minimum.

Does consolidating your credit card debt hurt your credit score?  Consolidating your credit card debt onto one lower rate credit card makes it easier for a lot of people to pay off or pay down credit card debt. To improve your total credit utilization, you should keep all your credit card accounts open, even after you've transferred the balances to a lower rate card. If you don't want to be tempted to use them, consider cutting the physical cards up.

Ultimately you have control over your credit score and how your credit card balance affects it. Keeping your credit utilization at 30% or less and paying your monthly credit card balance in full as often as possible will have a positive impact on your credit score.