Credit Scores Dropping
It looks like banks and card lenders are have found a new way to protect themselves from high risk borrowers. They are reducing their credit limits. According the the Associated Press this is just one more way banks are trying to protect themselves from more massive losses like those they’ve seen from subprime mortgages.
By reducing your credit limit your credit score is negatively affected. Let me explain. Let’s say your current credit limit is $5,000 and your carrying a $2,000 balance on your card. The credit card company worries that your large outstanding balance may increase your default risk so they reduce your credit limit to $2,500.
By reducing your credit limit they have in turn increased a key ratio used to calculate your FICO score. The ratio they’ve increased is called your credit utilization rate and is found by dividing your current outstanding balance into your total credit limit. In the above situation your credit utilization rate goes from 40% to 80%.
Thankfully banks and card companies must give you at least 15 days notice when they are changing your terms and conditions, but what they don’t have to do is tell you is that this reduction in your credit limit will negatively affect your credit score.
I think the best way to prevent your credit score from dropping is to pay off your outstanding balance every month. First off, if you are not carrying an outstanding balance your card company would most likely not consider you high riskand would have no reason to decrease your limit. Second, even if they were to reduce your limit and you do not carry a balance on your card, your credit utilization rate would remain the same, 0%.
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