Why You May (Or May Not) Need A Higher Credit Limit

Some view their high credit limit as a personal achievement. After all, building credit takes time and dedication.

Understanding how credit limits work, their benefits and drawbacks, and how you ask for limit increases can benefit your credit history and future financial goals.

Why Do Credit Limits Exist?

A credit limit caps the amount of money you can use on a credit card or other line of credit for purchases or other spending. It also represents your maximum balance. Your purchases and other bills, along with interest and fees, count against the balance.

For example, if your limit is $5,000 and you buy $1,000 with the card, you will have at $4,000 left and a balance of $1,000 (not counting the interest or finance charge). If you make a $150 payment on the card, your balance (not including interest) is $850 and you now have $4,150 to spend.

Notice that the original limit of $5,000 doesn’t change.

What Determines Your Credit Limit?

Your limit is based on your ability to repay the balance. It’s based on your current debts, income, and income after you've paid your debts.

Why You Might Need A Higher Credit Limit

An impending home improvement project or anticipated major car repairs that aren’t covered by your auto insurance may prompt a need for a higher credit limit. You may have major appliances, such as washers, dryers, refrigerators or stoves near their expiration dates and for which more credit can bring the replacements.

With a higher credit limit can come a higher credit score because it gives you a lower credit utilization rate. Bureaus such as FICO, which stands for Fair Isaac Corporation, factor your credit utilization rate in calculating your credit score.

You arrive at this rate by dividing the total of your credit card balances by the total of your credit limits. If your credit limits total $10,000, and you owe a total of $3,000 on them, your credit utilization rate is 30 percent. On the same total balance, but with only a $6,000 limit, you would have a 50 percent credit utilization rate. The lower rate translates to a better score because it shows that you rely less on credit.

Why You May Not Need A Higher Limit

If you’re not disciplined, increased credit limits can tempt you to spend irresponsibly.

Running up more charges just because you may hurt you. This is especially if you’re trying to buy a house, a car, or rent an apartment. Such spending can undue to lower credit utilization rate you achieved from increasing the limit.

Higher spending also pushes your debt-to-income ratio up to a point that may keep you from getting a mortgage or good interest rate. The debt-to-income ratio is the sum of your monthly credit card, car loan, student loan and anticipated mortgage payments divided by your monthly gross (pre-tax) income.

If you have a car payment of $250, credit card payments of $260 and a proposed mortgage payment of $690, then you have total monthly debt payments of $1,200. With a monthly gross income of $2,400, your debt-to-income ratio stands at 50 percent.

Generally, though, lenders prefer lower ratios, such as 36 percent or less. For example, to qualify for a Fannie Mae loan, your debt-to-income ratio can't exceed 50 percent.

How To Request A Higher Limit Through Your Credit Card Company

It’s simple. Find directions on requesting a limit increase by calling the company or going to the company’s online site.

Generally, your credit card company will want to know your current financial condition. This means you need to have your annual or monthly income and a total of your other debt payments, such as the car and mortgage. Have this information on hand. The card issuer may want to examine your stubs or loan statements as well.

Be judicious about the amount and timing. While not a guarantee of approval, a history of consistent on-time payments can enhance your chances. Consider waiting at least six months after you get the card before you ask. Avoid requesting a raise of more than 10 percent. In particular, card companies may ask about need and potential financial problems if you seek more than a 25 percent increase.

Raising your credit limit can help your credit scores and afford you some assurance to meet major needs in your life or home. To optimize the benefits requires that you exercise restraint and discipline in deciding if and when to spend if you get a limit increase.