What determines your credit limit and why is it important?


The credit limit of a credit card is one of the most important aspects that a cardholder should know. The credit limit not only determines your purchasing power, but it also contributes to your overall financial health.

However, issuers generally don’t reveal how your credit limit is determined, and they tend to be vague about how to increase it. Therefore, some cardholders may not know what goes into a credit limit and what makes it so large. If you understand the rules around credit limits, you can improve your credit score and have more control over your financial future.

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What is a credit limit?

A credit limit is the amount of credit the credit card issuer gives you and the maximum amount you can borrow at any time. You can spend up to your credit limit before your transactions get declined or you start incurring penalties.

When you use your credit card, you borrow money from your credit limit to fund the transaction. Your account balance increases and your available credit decreases until you pay the bill.

For example, if you have a credit limit of $10,000 and you make a number of purchases totaling $2,000, your available credit becomes $8,000 with a statement balance of $2,000. After paying the full balance of $2,000, your available credit becomes $10,000. A simple way to think about it is:

Credit card balance + available credit = total line of credit

Your credit limit also takes into account any balance transfers you can initiate on your account, so if you have a credit limit of $10,000 and you transfer a balance of $5,000 from another credit card, then your available credit would be $5,000 (plus interest or fees) until you repay the outstanding balance.

Besides credit cards, there are a number of other financial products that have credit limits or lines of credit. These include commercial lines of credit and home equity lines of credit (HELOC).

What determines your credit limit?

How lenders determine your credit limit varies, but there are a few things that apply no matter which institution you ask to borrow from. The lender’s underwriting process – the process by which lenders decide how much to lend to a borrower – is proprietary, meaning issuers don’t disclose exactly how it works, as it’s central to the company’s business model. transmitter. It would be like a restaurant revealing the secret ingredient to its best dish.

That said, there are a number of factors that affect the size of your line of credit, regardless of which lender you apply for the loan from. Credit score, payment history, credit history, income, debt-to-income ratio, and overall economy all likely contribute to a lender’s decision.

Ultimately, it comes down to your overall creditworthiness or financial attractiveness to a lender. The higher your creditworthiness, the more favorable your terms will be, which usually means a higher credit limit and a lower interest rate.

What happens if you charge more than your credit limit?

If you try to make a purchase over your credit limit, your card will likely be declined if you have over-limit protections in place.

However, most credit issuers no longer have over-limit fees, and issuers cannot charge fees for over-limit purchases without consent, per the CARD Act of 2009.

If you opted for over-limit protection, the purchase will be completed, but you will be charged a fee. Continued use beyond the limit could result in lower credit ratings and higher interest rates, or the credit issuer could close your credit account completely. The repercussions could also include a lower credit limit.

“A person who uses a credit card to the max, or gets close to it, might have their credit limit reduced as a risk-mitigation tactic, or the credit card company might give them an even higher credit limit. high on the expectation that she will continue to spend,” said Ted Rossman, a credit card industry analyst.

It’s important to keep tabs on how much you’re spending each month and stick to all your monthly payments to avoid overcharging and the headaches that come with it.

Why would I want a higher credit limit?

A higher credit limit can have several positive effects on your financial health. It makes it easier to avoid overcharges, can lead to a better credit rating, and offers greater purchasing power in an emergency.

However, for people who find it difficult to manage their expenses, it can also be tempting. A lower credit limit offers less temptation to spend on things you don’t necessarily need.

That said, the benefits of a larger line of credit outweigh the benefits of a smaller credit limit. Do your best to be as responsible as possible by paying off your statement balance each month and not using the highest purchasing power for unnecessary expenses.

What does your credit limit mean for your credit score?

Although a good credit rating increases your chances of getting a higher credit limit, a higher credit limit can in turn improve your credit rating.

One of the main aspects that contribute to your credit score, for example, is your use of credit. Credit usage is the percentage of your overall credit – across all of your open accounts – that you are using.

So if you have an overall credit limit of $10,000 and you have a credit card balance of $5,000, your credit utilization would be 50%.

When it comes to your credit usage, a good percentage to keep in mind is 30%: your credit usage contributes 30% of your credit score, and staying below 30% credit will have the greatest impact on it.

Having a smaller line of credit can make it harder to maintain a healthy use of credit. The higher your overall line of credit, the easier it will be to keep your credit utilization within that 30% range, and the better your credit rating will be as a result.

Can you increase your credit limit?

You can take two routes to increase your credit limit. You can wait for your issuer to contact you with an offer after reviewing your account, or you can request a credit limit increase directly from your credit issuer.

In either case, you’ll want to have an established history of responsible card use, which means using your card frequently while monitoring your credit utilization rate without missing any payments.

“Sometimes too much unused credit is viewed unfavorably by a card issuer. The theory is that available credit is a risk to the issuer, and if the line of credit is there and not making a lot of money, the issuer might offer it to someone else instead,” Rossman said.

Credit card issuers may contact you after an undisclosed time to make adjustments to your credit account based on your credit reports with the three major credit bureaus: Equifax, TransUnion and Experian. According Experian, credit card issuers might review your account every six to twelve months. After the review period, the issuer may offer to increase your credit limit.

Alternatively, if you’re looking to lower your overall credit utilization ratio, you can apply for more credit cards to increase your total available credit. In this way the best high limit credit cards can help boost your credit score.

How to request a credit limit increase

If you prefer not to wait for the issuer to decide for itself, you can request a credit limit increase by calling the number on the back of your credit card. Most issuers also allow you to request a limit increase online or through the mobile app.

“You probably want to have a credit card for at least 6 to 12 months before asking for that first raise,” Rossman told CNET. “You are especially likely to succeed if your income has increased, your credit score has increased, and/or your debt-to-equity ratio has decreased. Additionally, it will also increase your chances of success if you are a good customer who uses the card frequently and pays on time.”

When applying for a raise, in addition to knowing the amount of raise you are seeking, it is important to have on hand the necessary information that the issuer may request. This could include your annual income, employment status, and monthly rent or mortgage payment. Keep in mind that requesting a credit limit increase may also result in firm credit checkwhich has a negative impact on your credit score.

It’s also a good idea to have a solid reasoning behind why you’re asking for a higher credit limit, in case the rep asks, and to point out your history of on-time payments with regular card use. .

When to apply for a higher credit limit?

A good time to ask for a credit limit increase is after your financial health has improved. It could mean a higher income or a better credit rating. You can also request a limit increase if you are looking to improve your credit score by reducing your credit usage.

However, you may want to consider a secure credit card first if you are trying to rebuild or establish your credit. Secured credit cards offer lines of credit based primarily on the security deposit you put down, rather than your credit score.

Credit limit basics

Keep these tips in mind when it comes to using a higher credit limit:

  • Be aware of your credit limit.
  • Use your card regularly, pay more than the minimumand avoid spending up to your credit limit.
  • Budget yourself.
  • Keep your credit utilization below 30% to positively impact your credit score.
  • Ask for a higher limit if your spending habits change or your financial health improves.

The higher the credit limit, the better your financial health will be if you can control your spending. Although a higher credit limit may be harder to manage and more tempting to use for unnecessary purchases, it can have a greater positive impact on your credit score when used responsibly.

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