Why do lenders care about credit card utilization?

Credit card utilization can affect the terms a lender offers you — or even your ability to qualify for a loan at all.

Your credit card utilization is the amount of available credit you’re using on your credit cards.

Your credit utilization ratio is your reported balance divided by your credit limit.

Lenders may care about your credit card utilization because it can provide insights into your financial capabilities and how you manage money.

Here are two primary ways credit utilization can have an impact on your loan application:

• Credit utilization heavily influences your credit scores.
• High utilization could lead to a higher debt-to-income ratio. 

Your credit scores and debt-to-income ratio are two important factors when you apply for a loan.

A single maxed-out credit card, one with 100 percent utilization, may not be reason enough for a lender to deny your application, especially if you have multiple credit cards.

However, your overall utilization rate could affect your odds of getting approved for a loan or the terms you receive.

Your utilization can affect your credit scores.

 One of the most direct ways your utilization rate can influence how a lender views your application is its effect on your credit scores.

Generally, a higher utilization rate will have a negative impact on your scores while lowering your utilization rate to below 30 percent could help improve your scores.

Your overall utilization, from your combined balances and credit limits, and the utilization rate of individual accounts are both important.

You’ll want to be careful about how you use your credit cards and when you pay your bill. Even if you pay your balance in full each month, you could have a high utilization rate.

That’s because your utilization rate depends on the balance that your card’s issuer reports to the credit bureaus. This is generally the balance after your statement closing date.

Therefore, to lower your utilization rate, you can make a payment before the end of your statement closing date and before the card issuer reports your monthly balance.

High use could increase your debt-to-income ratio.

Your debt-to-income (DTI) ratio doesn’t directly affect your credit scores, but it’s another important factor in a lending decision, especially for mortgages.

You can calculate your DTI ratio by first adding up all your monthly debt obligations. These may include your monthly credit card payments; student, auto or personal loan payments; and other financial obligations such as alimony.

You then divide the sum by your monthly before-tax income.

Lenders may have general guidelines for how high an applicant’s DTI ratio can be. For example, you may not be able to get a qualified mortgage if your DTI ratio is over 43 percent.

A lower DTI ratio could help you get the best mortgage rates. A good target is 35 percent or lower, inclusive of your new mortgage payment.

Tim Beyers, a mortgage analyst at American Financing Corp. in Aurora, Colorado, says when it comes to credit cards, “the lower your utilization, the better position you’re going to be in to get a mortgage. If you’re paying a lot on credit cards each month, it could be tough for us to put you in a house.”

Trends in your utilization rate could be important as well.

 Most credit-scoring models don’t look at your credit utilization history. Rather, they base your scores on a snapshot of your utilization when you or a lender request to see your credit.

However, your credit reports may contain historical payment data.

Beginning in 2016, mortgage-finance giant Fannie Mae began using trended utilization data in its automated underwriting platform.

This means mortgage lenders may consider up to 24 months’ worth of your most recent credit card payment data when reviewing your application.

So, if you have a history of paying more than the minimum due on your card or paying in full (and always on time) each month, you could be viewed as a lower credit risk than if you always make only minimum payments.

Beyers says that your payment trends can also play a role during manual underwriting, which means a person — rather than an automated system — will evaluate the lending risk.

If you made mistakes in the past but have been working on your credit, “you can go to a lender and show them improvement and deliberate actions,” Beyers says.

The lender may be able to get you a mortgage based on your more recent track record, even if your credit hasn’t risen a lot.

Bottom line

Lenders may care about credit card utilization for several reasons. The good news for borrowers is that utilization is one of the things you can quickly change if you have the financial means.

And even if you can’t pay off all your debts right away, you can show potential lenders that you’re a responsible borrower by making on-time payments to whittle down your debts.