03-Apr-2019 written by : FSI-Team
Your credit rating is based on several factors one of which is credit cards usage. If your debt is low and you pay your bills on time, then you can expect a high credit score. However, repaying the debt in full and then not using plastic money ever isn’t the best thing that you can do for the rating. To understand why, let’s first take a look at how different credit card activities affect your rating.
Credit utilization is the ratio of credit card spending and the credit limit. So, if you are spending Rs. 25,000 per month on average with credit cards and the combined limit on them is Rs. 50,000, then the credit utilization would be:
25,000/50,000 = 0.50 = 50%
A credit utilization ratio above 30% is not good for credit score. So, in this example in which the ratio is 50%, your rating is going to take damage.
Apart from the credit utilization, the credit repayment pattern also hurts your score considerably. In other words, if you are often late with the payment of bills, then it can have an adverse impact on your CIBIL report.
Usually, banks wait up to 30 days when a payment is delayed. If you are able to pay the bill within this period, then you may have to pay a fine, but the bank won’t inform CIBIL. However, if the payment is delayed further, then you have to pay a bigger fine and the bank may also inform the credit rating agency. This can hurt your rating.
The main source of income for the credit card issuers is the interest on your debt. They want you to have debt so that they can make a profit. This is why most of them allow you to make “minimum payments” for your credit card bills which is usually around 2% of the total amount. The catch is that the remaining 98% is carried over to the next month. While this facility can get you out of a tough spot when you are in a cash crunch, it’s not good for your CIBIL report. This is because it ultimately increases your debt and you may develop a habit of making minimum payments more often. So, it’s best to use credit just enough that you are able to clear the debt every month.
If you are using multiple credit cards, then it can be tricky to manage all the payments. So, what you can do is close one account or two that you don’t really need. However, the accounts you pick can make an impact on your score. If you close an old credit card account even if you have new ones, then it can be a bad idea. This is because the length of credit history is taken into consideration at the time of score calculation. So, if you want to keep your score up, then close only those accounts that are new.
Now that you understand how credit card usage affects credit rating, let’s address the main question:
Clearing debt is always good for your CIBIL rating granted you know what you are doing. For starters, if you think that clearing the debt and forgetting about ever using credit cards is a good idea, then you are wrong. Using plastic money in a regular but controlled manner is important if you want to increase your score. Also, if you are paying off the debt but are late with the payments every now and then, then also it’s not good for your score.
The bottom line is, you don’t want to increase your credit card debt as that attracts interest and it’s not good for your CIBIL score. However, you should not be averse to credit card usage. If you are able to limit the credit utilization and pay the bills on time, then you can actually build a high score in no time.