“I would like to lower the limits on two of my credit cards from $6,000 to $1,500, and $7,200 to $3,500, but I’m not sure what the repercussions would be.”

“My FICO score, according to my credit union, is currently 762.”

“I read your blog several times per week.  I am happy to report that after many years of struggling, my total debt is less than $10,000 ($8,400 in student loans and $1,475 on a personal loan at my credit union).  I’m on track to be debt free in a little over a year!”

Thanks for being a loyal reader, Emily. Congratulations on your progress – you are on the homestretch now, and will soon enjoy the freedoms of being without debt.

Lowering your credit limit seems to be the responsible thing to do. After all, you are eliminating risk for the card issuer by reducing the amount of potential liability they are exposed to, and you are reducing the potential for you going on a wild spending spree and adding thousands to your debt.

Keep Credit Utilization at 30% or Lower

Unfortunately, the credit scoring gods don’t quite see it that way. One of the major components of your credit score is referred to as “credit utilization.” That is, the percentage of debt you owe in relation to your credit limit.

As an example, if you owed $3,000 on a credit card with a $10,000 limit your credit utilization would be 30%, which most agree is the sweet spot, or at least the upper end of the utilization ratio. Anything higher and it actually drags down your credit score.

If you reduced that $10,000 credit limit to $5,000, but still owed $3,000, your credit utilization would double to 60%. Maintain this level for too long and your FICO score could decline.

If you are concerned with maintaining a good credit score, and 762 is a certainly a good score, it might make sense to wait until you have paid off your balances entirely to reduce your credit limits, or to close a particular credit card account. At that time, consider how much you may be spending on the card each month and ask for a limit roughly 3.5 times that amount (round up to the nearest $500 just to be safe).

Assuming you plan to spend about $500 a month on items you purchase with a credit card (utilities, gas, etc) ask for a limit around $2,000 to ensure you stay under the 30% utilization threshold. If your billing statement cycles and a higher utilization ratio is reported to the credit bureaus, you could see a drop in your credit score, even if you pay off the card’s balance each month.

FICO Scores – Who Needs ‘Em?

Having said all that, a good FICO score is most important only if you plan to borrow again. Sure, credit scores are sometimes used to make employment decisions, and insurers often use credit scores to make underwriting decisions or to set premiums. However, it’s my opinion that we have become way too dependent on credit scores these days.

Make credit decisions that work best for your financial household, not because FICO suggests doing it one way or another. In the long run, you’ll be better off for it.

Thanks again for being a reader, Emily. Best of luck knocking out that remaining debt. Write back and let us know when you are officially debt free.

Ask the readers: Have anything to add for Emily? Have you considered asking issuers to lower your credit limit, despite the impact on your FICO score? Feel free to share in the comments below.

I was pleasantly surprised at the bump in my credit score since the last time I checked it. Since paying off all our credit cards, our FICO score has increased about 40 points. It wasn’t bad to start with, but was in the “average” range, and has now moved to “very good.”

Getting our updated credit score was nice, but the real reason I request a credit report at the end of the year (and again in the summer) is to check for any suspicious account activity – new accounts that I didn’t open, balances or personal information that I don’t recognize, etc.

If it has been a while since you last pulled you credit bureau report, I suggest taking advantage of this opportunity offered by MyFICO.com.

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I would not suggest someone go out of their way to wreck their FICO score, but I also wouldn’t recommend people be too concerned with their credit scores, either.  For far too long we have been beholden to this score, and taken on unnecessary debt in the name of improving our standing.  If you manage money wisely, make smart decisions when it comes to debt – including the type of debt you take on, and how well you repay it – you should have no trouble securing a high FICO score.  And here are a few benefits…

Higher FICO, Lower Mortgage Payment

According to the research at Information Research Services (infomars.com), as MyFICO.com, the difference in a 620 credit score and a 760 credit score means a $197 lower mortgage payment (on a 30-year, fixed rate mortgage of $200,000).  This is based on rates as of March 27, 2009, and may fluctuate some, but you get the idea.  Having an upper-tier FICO score can lead to significant savings in interest on real estate purchases.

Not only will optimal rates be available only to those with higher credit scores, but it could mean the difference in qualifying for a mortgage loan, or having to pay additional points to secure a decent interest rate.  The mortgage industry is probably the biggest supplier of FICO worries because most of us cannot afford to pay cash for a house, so financing is our only option.

Drive Cheaper

Besides saving money on car insurance, those who opt to finance a new car purchase on shorter terms (36 months) with a FICO score greater than 719 save about $119 a month over those with credit scores below a 590.  Personally, I don’t plan to ever finance a car again, but if I did I would obviously want to qualify for the lowest rates possible.  Bad enough car payments are as high as they are these days, but toss on another $100 due to high interest charges and it becomes downright ridiculous.

Higher Scores Lead Better Employment?

This is an area where there just isn’t much hard evidence to support FICO’s (and much of the financial press) claim that low credit scores can affect employment.  I’m sure employers in certain industries would be interested to know your FICO score as one piece of determining your overall employment potential, but using FICO as a screening tool has so many limitations.

Credit scores don’t tell employers a thing about the level of education someone has achieved, their savings and other assets, their work ethic, their trustworthiness, etc.  For instance, I used to work with someone who had trouble finding a job in her degree field (accounting) because she had gone through a nasty divorce and her ex-husband destroyed both their credit through running up unpaid credit cards, gambling, and a host of other financial problems.

It was only when she discovered this was going on behind her back that she ultimately asked for divorce, but the damage to her credit was done, as a couple of the accounts were in both their names (her husband forged her signature as a co-applicant).  Even though what he did was a crime, it was a nightmare to get accounts removed from her report, and things continued to “pop up” for months.

Potential employers looking for someone to handle their company’s money may incorrectly toss her resume based on a low credit score, when in fact she was probably more qualified than many other candidates in terms of education, work history, etc.

I’m sure you could dig up an employer or two to own up to using FICO scores for screening purposes, but most won’t.  I’m also sure you’d be hard pressed to find anyone in the banking industry that believes is not true. Again, we’ve been oversold on FICO and its importance in our society.

Don’t get me wrong, I think there is a place for credit scoring in helping insurers and potential lenders determine the risk of a potential customer.  However, I don’t think it is fair to label people with low (or non-existent) scores as bad, as if they deserve to walk around with some type of “Scarlet Letter” reading FICO=607 on their forehead.  Credit scores are but a small piece of the overall picture of someone’s creditworthiness, and to allow it to be the lone determining factor is just plain lazy on the part of lenders.

As consumers, the onus is on us to manage our credit wisely, check our credit reports periodically, and don’t go out of our way to damage, or enhance, our FICO score.  If you find yourself in my friend’s situation, dealing with a low FICO, there are plenty of ways to improve your credit score on your own.  Do not let desperation lead you to one of these “credit repair” places who charge fees for things that you can do yourself.  The number one thing that improves your credit score is time.  Yes, it heals credit wounds, too.

Get your updated FICO score today at MyFICO.com

Changes to FICO Calculation

What do the changes mean for you? Unless you plan to run out and acquire new debt, probably not much.  The changes do emphasize the need to implement your debt snowball plan and start paying things off quickly.  Those with higher credit limit utilization (balance to credit limit ratio) will be hit harder in the FICO 08 scoring model, so it pays to drive those high balances down lower.

No more piggyback rides allowed. This may be one of the only positives out of the new FICO changes.  Previously, people listed as “authorized users” still got benefits of having a good credit line, even though they were not financially responsible for the account. 

Many of those late-night credit repair crooks used this technique to improve scores.  They would pay a person with good credit to add someone with lousy credit as an authorized user (of course, Lousy never got a card or the number).  By virtue of being paired up with Mr. Credit Pimp and his perfect credit score, Lousy saw her credit score increase.  Under the new model only an account’s applicant or co-applicant will have their credit score impacted by account activity.

Perfect Credit Score Does Not Guarantee Financial Stability

FICO has really dumbed down the financial industry. I guess in some ways FICO has helped to prevent discriminatory lending practices (after all, it’s just a number, not a sex, race, or age).  However, the negatives far outweigh the positives in my opinion. 

Banks used to consider how long someone was on the job, or whether or not they paid their landlord on time, when considering lending money.  An employer would use interviews and a firm-handshake-test to determine if someone was trustworthy.  I remember when I worked in a new credit department of a large financial firm the only things that mattered on an application where FICO and income.

These days we look down on people with poor credit scores and exalt those with a perfect credit score in the 800′s. Can you imagine the personals in only a few years?  Male 6’3″/220lbs/760 FICO seeking Female in the 720-760 range.

Wanna see how you measure up? Check out MyFICO.com to check your current credit score.