How Does Credit Card Debt Affect Your Credit Score?

How Does Credit Card Debt Affect Your Credit Score?

Credit card debt is often considered one of the most dangerous types of debt, because it’s consumer debt that isn’t tied to any asset (unlike a home or car) and therefore comes with a relatively high interest rate.

It also tends to come with higher than normal fees, overages charges and other traps that keep you in debt to the credit card companies longer. You don’t have nearly the amount of control over credit card debt that you do with some other types of debt.

So how does credit card debt affect your credit score? Let’s take a look at the important factors.

What Makes Up Your Credit Score?

There are five factors that make up your credit score:

  • Payment history (35%)
  • Amounts owed (30%)
  • Length of credit history (15%)
  • New credit (10%)
  • Credit type (10%)

As you can see, payment history is the biggest factor when determining your credit score, but the total balance you owe makes up the next biggest contributing factor. Which means, if you owe a lot of money on your credit cards — and exceed the target minimum (more on that below) — it’s likely that your credit score will be negatively affected.

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Understanding the Credit-to-Debt Ratio

To maintain the correct credit-to-debt ratio or target minimum, you should never utilize more than 30% of your total available credit on any one credit card.

For example, if you have a card with $1,000 credit limit, you don’t want to charge more than $300 each month (or 30%) to keep your credit-to-debt ratio intact. It’s important to do this whether or not you pay off the balances every month, because charging more than 30% of your limit will cause your credit score to decrease.

That 30% target is the minimum you should aim for and if you can pay your credit cards off entirely, that’s even better! But you never want to charge more than 30% of the credit card balance if you want to maintain a high credit rating.

Once your credit utilization goes above 30%, then your credit score will likely begin to drop — not a lot at first, but a little. And if your credit utilization starts to approach 100% of your available credit then your credit score will likely suffer quite a bit.

A Credit Score is Basically a Debt Score

Banks want to see a potential lender who regularly pays interest and continues to make progress on reducing the principal. Having credit card debt can be a good indicator of whether the lender can approve the debt you’re requesting.

So in essence, having some kind of debt — whether it’s credit cards, student loans, or a mortgage — can help service other debt you’re trying to consolidate or pay off. Essentially your credit score is a determination of your ability to take out debt and then repay it, meaning it’s more of a debt score indicator than anything else.

In a sense, it’s true that having a credit card (or a few credit cards) can help your credit score. However, and this is a big however, getting buried in debt is never good for your credit score. So nobody should go out and get a credit card if they think it will cause them to fall into debt.

How Credit Card Debt Affects Your Credit Score

Exceeding your credit-to-debt ratio can cause your credit score to go down. But the even greater damage to your credit score can come from failing to make your payments on time every month. Since your credit score is basically a measure of your likelihood of paying back a loan, missed payments or late payments are signals that you might not be as likely to pay back a loan and for that reason they hurt your credit score. The fact is, one late payment can hurt your credit score. We’ve previously written about what happens if you don’t make your credit card payments, and that post gives you a very detailed look at the potential impact on your credit score.

You Have More Than One Credit Score

You should also know that although we talk about your “credit score” as if it is one solitary score, the reality is you have many different credit scores. That’s because there are three major credit bureaus — Experian, TransUnion, and Equifax — that each compile credit reports and provide their own unique credit scores to lenders.

While each of these credit bureaus generally provides a score that is within a similar range as the other two bureaus’ scores, there are rare cases when the scores vary wildly and in those cases you need to find out the cause of the variation (which may be credit fraud or simple error) and try to address it.

Furthermore, each credit bureau has a range of different credit score “types” that they provide to lenders in situations where a consumer is applying for a mortgage, applying for a car loan, or applying for a credit card. Which means your credit score for a mortgage application is often different than your credit score for a car loan application, and so on. These credit scores pretty much all range from 300-850, though, so if you can keep your score in the 700′s or even 800′s you’ll be in good shape.

Because, if your intent is to get out of credit card debt completely, and not worry about the “debt score”, I’d suggest using the ReadyForZero app to make a plan. Then interact with the community here on the blog to help keep you motivated.

Your credit rating is only one part of what decides whether you get approved for a loan, and credit cards are only a part of the credit rating. So don’t worry too much about having credit card debt in relation to your credit score, unless you’re planning to take out more debt in the near future. Hopefully this post helps you understand how credit card debt affects your credit score. If you have more questions, ask us in the comments below!

Image Credit:  i am real estate photographer

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  • Kendal

    Great post, Carrie! The information about the credit-to-debt ratio is especially helpful.

    • http://www.twitter.com/bwfeldman Benjamin Feldman

      So glad you found it helpful, Kendal!

  • Raymond Babcock

    never use a credit card if you can not afford and it is not essential food transportation live with out it

    • http://www.twitter.com/bwfeldman Benjamin Feldman

      Good advice, Raymond. Although credit cards can be okay for those who are not tempted to overspend, they can be disastrous for those who get in debt.

  • Aim4

    I am hoping someone can answer this for me…..I have a credit card that is now closed (closed a couple years ago) that I am paying off. I’m paying it off at 0% and the card has about $10,000 still left to pay. I’ve never missed a payment and always pay on time.
    That said, if I call the credit card company (the debt is still with them and didn’t go to a 2nd hand debt collector) and ask if I can pay it off and settle the debt BUT only for a % of the debt (e.g. I give them $5K NOW, all at once, instead of the $10K owed that they will get in pieces over the next ten years) would this substantially affect my credit in a negative way??
    My sister said she’s willing to lend me the $5K and I would just start paying her back. I just want to make sure that IF the CC company agrees to this, it wouldn’t make a huge dent in my credit score (which is around 750). THANK YOU in advance!

  • mrsygrmstr

    I paid off my credit cards a few months ago. I was recently denied credit despite a good score (811). Among a few different reasons (short account length and too soon after opening other credit included, which I get), the third reason, the one that stood out and irritated me the most, was “No recent revolving balances.” Consequently, I’ve decided 0% utilization is apparently a bad thing, so I’ve been charging just fuel purchases and paying them off every month. Every article I read says 0% is OK. I get that I could go out and rack up $30,000 in debt tomorrow, but I haven’t (and I won’t, of course). I agree that having that debt gone is more important than my score, but I’m still irritated. RFZ team, what do you make of this? Have you ever seen this reason before, and is charging a small amount and paying it off every month the way to go to avoid this?