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In an ideal world, no one would carry a balance on a credit card. Carrying a balance usually means paying interest on your purchases, so everything you buy ends up costing you more than the original purchase price.
Even with low or no interest rate promotions, having debt is a risk, and depending on how high your debt balance is relative to your credit limit, you could risk damaging your credit score.
Will carrying a balance improve my credit score?
Carrying a balance doesn’t help your credit score, so it’s always best to pay your balance in full each month.
The impact of not paying in full each month depends on how large the balance you have compared to your credit limit. Credit utilization, or the amount of available credit you’re using at any one time, is an important component of your credit score. After payment history, it accounts for about 30 percent of your overall FICO score. VantageScore also uses a weighted scale, with credit utilization accounting for 20 percent of your VantageScore 4.0 score.
How credits are used
Here’s a quick explanation of how credit utilization works: Let’s say you have a credit card with a $500 limit and you spend $250 on a purchase. Your credit utilization ratio is 50 percent, which can have a negative impact on your credit score. The general rule of thumb is to not use more than 30 percent of your available credit, or $150 in this case, to avoid losing points on your credit score.
If you have additional credit cards, your credit score will also take those balances into account.
- Card #1: Credit limit $500, balance $250
- Card #2: Credit limit $2,000, balance $400
In this case, your total credit limit is $2,500, and you’ve currently used $650 of that limit. Therefore, your credit utilization ratio is 26 percent, which is below the recommended maximum of 30 percent needed to maintain a solid credit score.
To quickly calculate your current ratio, use Bankrate’s Credit Utilization Calculator .
How credit usage impacts your credit score
Keeping your credit utilization ratio low will help your credit score — assuming, of course, all the other components of your credit score are in good standing.
People with the best credit scores often have utilization ratios in the single digits, but don’t forget they’re also doing everything else right, like paying bills on time, not closing old accounts to maintain their credit history, maintaining a healthy credit mix, and only opening new accounts when necessary.
Is it better to pay the full amount or leave a small balance?
Paying off your balance in full each month shows you’re living within your means — in other words, you’re using your credit card as a way to spend the money you already have, rather than using it to make more money — which is a sign of good overall financial health.
Although some consumers carry small balances to show they are taking advantage of the credit they are given, neither the major credit bureaus nor FICO say this is necessary or beneficial. In fact, as we showed above, carrying a balance not only costs you interest, it can also lower your credit utilization ratio and hurt your credit score.
If you carry a balance, it’s important to know when your credit card issuer reports your account information to the credit bureaus. Often, that’s at the end of your billing cycle. Your balance for that day is reported to the bureaus and reflected in your credit utilization ratio. So, in theory, you could leave a small balance on that day and pay it off the next day to prove activity on your account and avoid paying interest. But chasing a perfect credit score could get you into far more trouble than it’s ultimately worth.
When balances can negatively impact your credit score
First of all, carrying a balance affects your credit utilization ratio, which accounts for 30% of your credit score calculation. This is true even if you carry a balance on a 0% introductory APR credit card.
And there’s a more obvious consequence: Carrying a balance costs you money in the form of interest charges. Using a low-interest credit card or a card with an introductory offer of 0 percent APR allows you to strategically avoid or minimize interest on large purchases. These offers usually last for a specific period of time, often 12 to 15 months. While it may make financial sense to carry a balance on such a card, it’s also important to remember that carrying a balance past the introductory offer period increases your risk.
Conclusion
Using more than 30 percent of your total maximum credit limit not only puts you at financial risk, but it can also lower your credit score. Keeping your balances low can help improve your score while minimizing risk. The lower your balances, the higher your score.
Consider carefully how you want to use your available credit based on your goals and personal situation, but remember that the best way to maintain a high credit score and reduce financial risk is to pay your balances in full and on time, every time.
