This article is authored by Rajiv Raj, Director & Co-Founder of CreditVidya.
Getting a call from your bank offering an enhanced credit limit on your credit card is a good sign. First, it means you are a good customer who pays on time. Second, it offers some more headroom to spend money on credit. But the third point, and the most important of all, one that most people are not aware of – it helps you build good credit score.
Here we give you a lowdown on how it works.
The moment you get higher credit limit, your credit utilisation ratio goes down, which in turn helps you to improve your credit score. For example, assume that you spend Rs 50,000 per month on your credit card that has a credit limit of Rs 1 lakh. Here the credit utilisation ratio stands at 50%. If the credit limit is enhanced to Rs 1.5 lakh, and you keep your monthly spends constant, your credit utilisation ratio falls to 33%.
Low credit utilisation against offered credit limits means you are in a good financial shape. If you can sustain the credit utilisation ratio at low levels, it surely helps in lifting your credit score, popularly known as CIBIL score in India. The Credit Information Bureau Limited, or CIBIL, is India’s first credit information company founded in 2000. I wrote about this topic in How to get a good credit score.
- Better handling of emergency
Higher credit limit on credit cards means you have some elbow room to spend. This comes to the rescue when there is a financial emergency. Though most financial planners advise keeping at least six months of family expense in a fixed deposit to address such financial emergencies, not everyone can start his financial journey with an adequate emergency fund. High credit limits can offer you some respite till the time you build your emergency funds. Even if you have an emergency fund in place, you may not reach it if you are travelling abroad, and in such situations a credit card can rescue you.
- No need for multiple cards
If one bank is willing to offer a credit limit that comfortably takes care of your monthly credit spends, there is no need to go to approach other banks for additional credit cards. For instance, if you have one credit card with credit limit of Rs 5 lakh and you have monthly spends of Rs 50,000, this such card is sufficient to meet your needs.
Sticking to one card also helps in keeping a track of your spends and paying off the dues on time, as you have only one date to remember.
If the bank offers you higher credit limit, you may consider making some mandatory spends on the card. Think of a couple of instances where you are paying in cash or making a cheque payment but can pay by credit card. Payment of insurance premium and utility bills are some that come to mind. By paying by card, you can earn more reward points or take home some cash back. Both ways you win.
Though higher credit limit on your credit card means you have more freedom, be careful when using credit. Spend within your means and pay off your credit card dues on time. If you can keep your credit utilisation ratio low in addition to timely repayments, you get good credit score which in turn helps you to secure cheaper credit in future. Going overboard with high credit limits, however, is a prescription to poor credit score and poor financial health.
