What is Credit Utilization and Why is it Important?

Jack Prenter, Founder of Dollarwise

Credit utilization is a metric that explains how much credit is available to you across all credit types versus how much credit you’re using. This is shown through the credit utilization ratio. 

Credit utilization greatly contributes to your overall credit score – by most estimates it makes up 30% of your credit score.

Because of how influential credit utilization is in determining your credit score, it is wise to understand everything about it so you can make informed decisions about how to keep it low. You should always aim to have less than 30% utilization.  

Let’s start by explaining how to calculate your credit utilization ratio in Canada. 

Calculating our credit utilization ratio in Canada

Calculating the ratio is rather simple: Add up everything you owe to the card lender and divide it by the credit you currently have available. To get the % of credit used, multiply the result by 100. 

  • (Total current credit balance / Total credit limit) * 100 = Credit utilization percent

You should also include only specific types of credit in your calculations: credit cards and lines of credit

Your mortgage, car loan, student loans, or any other personal loans are not considered for calculating the credit utilization ratio (but they do contribute to your overall credit score independently).

Let’s look at two examples of credit utilization ratio calculations:

Example #1: 

  • Total credit limit: $5,000
  • Total credit balance: $842
  • Credit utilization ratio: 16.84%

This is how your credit utilization should look like. As long as it’s below 30%, your credit score won’t suffer for it; the lower it goes, the higher your credit score goes. 

Example #2: 

  • Total credit limit: $5,000
  • Total credit balance: $2,143
  • Credit utilization ratio: 42.86%

In this example, it’s evident that the utilization ratio is too high at 42.86%. This can have a drastic impact on your credit score and it’s best to avoid such a situation altogether. 

However, urgency sometimes precedes efficiency so what can you do if your utilization ratio jumps above 30%?

How to lower your credit utilization ratio?

Increase credit limits

Increasing your credit limit can lower your credit utilization ratio. A higher limit means you can spend the same amount while using a smaller percentage of your available credit.

Contact your credit card issuer to request a higher limit. Be prepared to provide information about your income and financial stability. Remember, a higher limit requires responsible spending to avoid debt accumulation.

Apply for a new credit card

Applying for a new credit card increases your total available credit. This can dilute your credit utilization ratio, especially if you maintain low balances.

Look for cards with benefits suited to your spending habits. Be mindful of the potential impact of credit inquiries on your credit score. Research thoroughly to find a card that complements your financial goals.

Consistently pay off your credit card balances

Paying off your credit card balances in full is the most effective way to lower your credit utilization ratio. It demonstrates financial responsibility and can improve your credit score. However, this is a difficult method to use seeing how it can cause financial strain. 

You shouldn’t decide to pay off all of your balances unless you’re financially capable of doing so (as payments of this kind require a significant financial transaction). 

Instead of waiting for the billing cycle, make multiple payments throughout the month. This keeps your balances low and reduces your credit utilization ratio.

The best way to do this is to align your payment schedule with your income flow. Regular, smaller payments can be more manageable and help in maintaining a disciplined approach to credit usage.

Checking your overall credit score and credit report

The only way to reliably check how your credit utilization ratio impacts your credit score is to get a credit report. This can be done in one of three ways in Canada.

Contact a Credit Bureau – There are two options to pick from here – TransUnion or Equifax. Both provide credit monitoring services that can get you your credit score and report. Keep in mind that you’ll have to pay for their services but you’ll also get some great benefits as well (e.g. identity theft protection). 

Do it For Free – Compared to TransUnion, Equifax offers free credit monitoring services to select clients. You can learn more about their program here. You can also use other free 3rd party credit monitoring providers such as Borrowell and Credit Karma, but you’ll only get access to your credit score – not the report.

Alternatively, you could take a look at your online banking profile because most chequing accounts in big banks nowadays come with free credit score checks. 

Use an All-in-One Credit Monitoring Platform – Platforms such as KOHO Credit Building come with the ability to check your credit score and automate your credit payments.

These platforms are useful as they can actually help your credit score by making all payments on time. As with credit bureaus, you’ll have to pay to use the features these platforms provide. 

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