Advice often given to those looking to build credit is to open a low limit credit card and pay the balance off every month. This is sound advice and is a great route for individuals who are either trying to repair their credit or for young people looking to start a credit history. However, that advice can often lead to the assumption that low credit limits do not impact your credit score, which is not the case.
A credit limit increase can have a huge positive impact on your credit score, but word to the wise, an increase is not for everyone.
How Credit Limits Can Increase Your Score
Credit scores are how Credit Reporting Agencies (CRAs) assess risk. CRAs do not publicize the specific formula used for calculating credit scores, but there are some clear factors that are widely recognized. The most obvious measurement of risk is making or failing to make timely payments. However, a clean credit history only accounts for a portion of your overall score.
Specifically, roughly 30% of a credit score is comprised of “amounts owed.” This is where your credit limits come into play. A key factor in calculating your risk based on “amounts owed” is your debt-to-credit ratio.
A debt-to-credit ratio is just what it sounds like. CRAs take your outstanding balances and divide them by your available credit -- also known as credit card limits. The higher your limits the lower your debt-to-credit ratio. Therefore, if you carry any balance at all on your credit cards, the higher your credit card limit, the better your credit score will be.
Why Asking for a Credit Increase May Not Be Right for You
Your next question is probably, “well then, why don’t I go out and ask for credit limit increases on all of my cards?” While, credit limit increases will certainly positively impact your credit score, the process of getting the increase could actually end up having a negative impact on your score.
When you request credit in any form, including a credit limit increase, the potential credit provider will almost always complete a “hard pull” on your credit report. A “hard pull” is when a potential credit provider takes a look at your full credit report (as opposed to a “soft pull” where they only get limited information — more on this distinction in a future post). When an individual has a lot of hard pulls on their account, that can negatively impact their credit score.
Generally speaking, you want to keep your hard pulls at under four. If you already have a few pulls on your account, it is best not to ask for a credit increase right now. The good news is, however, that hard pulls do not stay around forever. They will age off of your credit report after two years. Chances are one or two of your pulls will age off in the not so distant future, and that is when you might want to consider requesting an increase.
Also, it is not a great idea to request a credit increase if your credit is not in the best shape. If your credit score is not good right now, then you probably will not be approved for the credit increase. A better strategy for score improvement if your credit is poor is to begin to pay down debts, as opposed to increasing your limits.
The Bottom Line
Overall, your debt-to-credit ratio is only one factor of many that are used to calculate your final score.
If you are in a position where you have good credit, few credit pulls, and your income easily covers your expenses, then a credit increase might be a good strategy for you to take your credit score to the next level. However, if you are trying to build-up your credit score, have several hard pulls already on your account, or your income is not meeting your expenses, then a credit increase is not for you.
There is no one size fits all model for credit score improvement. As always, make sure any strategy you use to try to increase your score is one that will work for you.