Credit utilization is the second most important factor in determining credit scores, second only to payment history.  It accounts for 30% of a person’s credit score and, when this ratio is high, can give the impression that a person is maxed out. (Credit utilization ratios are determined by dividing current current credit card balances by available credit.)

Last year, consumers with very good credit utilization ratios of 30-40% awoke to find that credit limit decreases has caused their ratios to skyrocket close to 100%.  For example, a person with $3000 in outstanding credit card debt and $10,000 of available credit has a credit utilization ratio of 30%, a factor that would favorably impact their credit score.  However, when $10,000 limits were cut to $3300 limits, the ratios shot up to 90%, making responsible borrowers appear to be on the precipice of running out of credit.

As a result of exponentially increasing credit utilization ratios, credit scores took a tumble, making it more expensive, not to mention more difficult, to get new credit card loans, reasonably priced card loans, or mortgages.  Now that consumers have had the better part of a year to reduce outstanding balances, many who were shut out of the credit card market may be pleasantly surprised to find that their credit scores have returned to pre-credit cut levels.  That is, of course, if balances have been paid down enough to reduce credit utilization to less than 50%.

Those who have made steps to reduce the percentage of their available credit will likely find that credit card companies that denied applications for 0% balance transfer credit cards six months ago may be willing to offer these low cost refinancing options to them.  This, in turn, can help consumers reduce monthly interest payments and further improve their credit utilization ratios, as the addition of a new line of credit will serve to decrease credit utilization ratios further.

Consumers looking to learn more about their credit utilization can do so by visiting www.annualcreditreport.com, the only website that actually gives free credit reports without requiring a subscription.  Using the data on these real free credit reports, a person simply needs to add up their credit card limits and balances and do a little simple math to determine if their credit utilization ratios are healthy.

Mary Vegliante

Two helpful articles on this subject on our site include, “What to Do When Your Credit Limit is Cut,” and “How Balance Transfers Affect Credit Scores.”  If you are interested in learning more about protecting your credit score after a limit decrease or before a balance transfer, you may find these quite useful.

I want to thank a visitor named Lisa that brought this issue back to my attention.  She sent me a nice email which you can read below:

“Thank you for this site. I just had my credit limit cut in 1/2 by Bank of America and my credit is quite good. Needless to say, I was informed verbally that this was because of changes in the company and that it would not really affect my credit score. Thanks to your site, I now understand the impact their change will have on my credit score.”

I couldn’t have written better praise for Smart Balance Transfers myself.  Hope we can help you out as well.

A common concern for people considering balance transfers is how a balance transfer will affect their credit score.  I wrote a detailed article on balance transfers and credit scores recently, but ultimately, there is no concrete answer to this question.  Nevertheless, there are a few general rules a person can follow to limit any negative effects a balance transfer could have on your credit score and even improve your credit score.  First, however, we’ll start with the negatives.

How to Hurt Your Credit Score with a Balance Transfer

1. Close your other credit card accounts:  30% of your FICO credit score is based on your credit utilization ratio.  Put simply, this is the amount of available credit you are using.  For example, if you have a $10,000 credit limit and $2,000 of credit card debt, your credit utilization ratio is 20%.  This would positively impact your credit score, as it shows you are nowhere near maxed out.  On the other hand, if you had a $10,000 credit limit and $8,000 in credit card debt, your credit utilization rate would be 80%.  This would lower your credit score, as you would appear to be maxed out.  Thus, unless you are paying an annual fee, don’t close your credit card accounts after you transfer balances.
2. Close your other credit cards, part two:  Yes, I am repeating myself, but there’s another thorny issue with closing your credit card accounts.  This issue related to your overall credit history as closing accounts you have had for a long time will effectively shorten your credit history.  For example, if you close your oldest account which you have always paid on time, you will lose much of the positive impact that account has on your credit score.  Closing newer accounts has less of an effect, but can impact your score as well.

Other Credit Score Considerations

Call me redundant, but the main way you can hurt your credit score is by closing accounts.  Don’t do this.  Seriously.  With that said three times, another way balance transfers hurt credit scores is the minimal impact applying for a credit card has on your credit.  While there is no tried and true measure, and everyone’s situation varies, the general consensus is that applying for a credit card knocks about 5 points off your credit score.  This is a short term effect, and is often vastly offset by the benefits accrued by reducing your credit utilization ratio if you are approved and granted new credit.

Can Balance Transfers Help Your Credit Score?

This is a tricky question, which really can’t be answered definitively because of the dynamic nature of everyone’s scores as well as the secrecy that shrouds credit score formulas.  I’ve made attempts to get to the bottom of this issue by utilizing free credit report offers that allow you to project the effects balance transfers have on your credit scores (you can find information on free credit score tools here.)  Utilizing my own situation, doing a balance transfer actually increased my credit score by about 5 points.  However, I must stress, everybody’s situation is different.

Final Considerations

0% balance transfers can save people hundreds, if not thousands of dollars in interest over the course of a single year, while reducing the time it takes to get out of credit card debt substantially.  In most cases, the benefits of a balance transfer will massively outweigh any negative impact on your credit score.  Thus, unless you plan to apply for a mortgage or car loan in the very near future, you should stop worrying about your credit score and start focusing on getting out of credit card debt.

For additional information on tools you can use to analyze how balance transfers affect credit scores, please visit the free credit score section of this website.

To estimate how much money you can save with a balance transfer, try out our balance transfer savings calculator.

Or, if you’re ready to start saving money today, visit the 0% balance transfer section of this website to compare offers and apply online.

In this article, I examine a few scenarios in which doing a balance transfer actually improves a person’s credit score as well as a few major pitfalls to avoid.

Ultimately, whether you are applying for a credit card to earn rewards, get a 0% intro rate or do a balance transfer, there will probably be a change in your credit score.  Unfortunately, however, it is difficult to truly present a complete answer to questions like, “Will applying for a credit card hurt my credit score?”  For some people, applying for a credit card and consolidating balances can actually improve credit scores.  However, this is not the case for everyone.

Because predicting the effect applying for a credit card can have on any person’s credit score, we recommend using a free credit monitoring service that offers a credit score analyzer.  With this tool, you can test various scenarios to determine roughly how your credit score will be effected.

Again, these tools are not perfect, but neither is the confusing credit score system.

For more detailed information on how balance transfers effect credit scores, please see the complete article.

For additional information on websites that offer access to free credit scores and credit score analysis tools, please see the free credit reports section of this website.