What are credit limits and why are they important?
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What are credit limits and why are they important?

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A credit limit is the amount that a credit card will allow a customer to borrow on a card.  This means that a credit card limit can be very important and plays the same sort of role as the loan amount will play in a fixed loan.

Credit cards have many strengths; in particular a credit card user often does not need to pay interest on the amount of money that can be advanced.  This will mean that the customer knows that they have access to a certain amount of money but that they do not need to pay the costs associated with many similar types of loans.  They also have the ability to repay up to the whole amount of the outstanding debt at a time of their choosing. Furthermore, instead of having a fixed repayment amount they have a minimum payment amount that is often far less than the fixed amount would be with a loan of a similar value from other sources of credit.

The credit limit is decided on a number of factors.  Credit scores are usually a very important factor in setting the credit limit.  This means that the credit card provider is taking into account the customer’s previous credit history.  The lender will also look at a person’s history with the lender, and consider whether they are likely to pay on time and whether they keep to minimum repayments.  This will mean that the lender can increase or decrease the limit on a periodic basis.  They will also consider the income level of the customer in deciding whether a credit limit is affordable.

The credit limit will tend to change periodically, as it gets reviewed by the credit card company.  This will usually be at the initiative of the provider rather than at the initiative of the credit card user.  The review will take account of a number of areas and these will include the general availability of credit within the bank as well as market rates and other factors.

When there are general economic difficulties and lending opportunities are decreased, credit card users can sometimes find that they will be given a lower limit, which can be less than the amount of money that they have actually borrowed on the credit card, which can mean that they face a sudden demand for repayment or that the credit card account is frozen.  This can often happen if they have defaulted on another loan, as this can change the credit card holder’s credit rating.

Can my credit card provider cut my credit limit?

Credit card providers are cutting credit limits more frequently, particularly since the global financial crisis and the resulting credit crunch. Some card users believe credit card providers aren’t allowed to do this, but this is true only in a few limited circumstances.
In most cases credit card providers have the ability to unilaterally cut any card’s credit limit. This will be part of the terms and conditions, and it generally states the lender can reduce the credit limit “for any reason.”

In some cases, the terms and conditions say the lender will state the reasons for cutting the credit limit, or will even limit themselves to certain reasons, although this is rare. It’s reasonable to call and ask why a credit limit has been reduced, but the person who answers the phone won’t generally have the answer, requiring the card holder to speak with a manager or customer retention officer to learn this information.

Usually the card holder will be told in advance the limit is being reduced and there’s a few days before it takes effect. This is particularly the case if the card holder’s usual spending is above the new credit limit. It’s possible the credit limit will be cut to a level lower than the current balance, and in that case the account is instantly frozen. Generally no penalties are charged, and if there are these can be appealed – even to a government office if necessary.

The most common reasons for reducing a credit limit are a) there has been a worrying pattern of spending, b) the credit profile of the card holder has changed, or c) there has been a change in lending policy by the card provider.

There are certain patterns of spending that sometimes indicate the card holder may have problems with credit card repayments in the future. This can include a sudden desire to withdraw cash advances or a willingness to use the credit card on gambling websites.

A changed credit profile is another reason the credit limit may be cut. This can particularly be true if there has been a missed payment on another credit card or loan.

Credit card providers do often change their lending policy, which can result in a credit limit being reduced. But usually this will be more gradual than other cuts.

How to Request a Higher Credit Limit

Credit card companies issue card terms, including credit limits and interest rates, based on various factors including the credit history of the applicant, their annual income and their personal history with the financial institution. However, as time passes and the cardholder continues to make payments on time and maintain a positive history with the card, it is possible to receive credit limit increases. There are specific events that could improve the likelihood of having a credit limit increase request honoured, three of which are described below.

Changes to Other Credit Accounts

Sometimes the credit limit is based on the amount of available credit that an applicant already has. If this is the case, simply closing a couple of other credit accounts may improve the chances of having a credit limit increase honoured for the remaining credit card. This is because credit card companies trust that a cardholder with fewer obligations will be able to repay a higher credit limit than someone who is committed to several repayments each month. Requesting that the limit be raised to accommodate a balance transfer may also work as well, as most credit card companies welcome the additional funds to the credit account that would result from the transfer.

Improved Credit Score

Perhaps the most basic way to obtain a credit limit increases to improve the credit score. This can, however also be the most difficult task to accomplish if a large amount of credit card debt already exists. Since card issuers determine the credit limit based on the credit score at the time of application, many cardholders can receive a credit limit increase by requesting it several months after receiving the card, as long as they have been properly managing their account balances and improving the credit score steadily.

Income Increases

Cardholders who recently received a raise at their current job may want to wait a couple of weeks before requesting a credit limit increase, as the raise could be temporary. Most card companies are willing to increase the credit limit as soon as the cardholder’s income has improved. For example, if an individual recently transferred from a job which paid $15 an hour to one paying $30 an hour, then the card company will almost definitely grant a higher credit limit, as long as the cardholder has a positive repayment history.

Is raising a credit limit always a good idea?

Many credit card holders worry over whether their credit limit is high enough. But many of those card holders don’t use their credit limit, and many of those who do use the credit limit should be using forms of credit other than credit cards.

A credit limit is the upper limit a card holder is allowed to borrow on a credit card. This limit is usually set when the card holder’s application is approved, but it can be changed at various stages of the account’s term. The credit card holder is not charged interest against the credit limit, only against the money actually accessed and used. This makes credit cards a useful way of having funds available on demand, without being charged interest for the privilege (although the account holder may be charged an annual fee instead).

Some credit card holders tend to have higher credit limits than they need. This is particularly true for card holders who “max out” their credit cards, or charge the maximum credit limit and then carry that amount as a balance from month to month. These card holders would do better to find other forms of credit over the long term, because of the high interest rates charged by credit cards. Most fixed loans will be cheaper than credit cards, especially if this loan is secured against an asset of some sort, such as a house or a car.

Other credit card holders never use the high credit limits they’ve fought to secure, which includes paying more annual fees than necessary to carry additional credit cards. Although there is some virtue in holding credit available for quick use in an emergency, keeping credit unused doesn’t necessarily translate to a better credit score, and this can be a problem when applying for a mortgage or car loan. The lower credit score can translate into a higher interest rate, even for secured loans.

For card holders interested in raising their credit limit, this can be done in two main ways. The first is to apply for additional credit cards that advertise higher credit limits for their customers. The second way is to phone up the current credit card providers and ask for an increased credit limit, but this will usually require a manager’s approval in the end.

Lowering a credit limit

People may want the credit limit on a credit card lowered for a number of reasons. One reason is that they may not wish to borrow too much money on a credit card. They may also want to wean themselves off a high credit card debt. They may not be able to do this all at once, but by gradually lowering the credit limit they may find that they are less dependent on the credit card that they were before. Another common reason for cutting a credit limit on a credit card is that there may have been a promise to a friend or relative to cut down credit limits in return for financial help in a financial crisis.

There is a method of improving credit scores that involves the lowering of credit limits. This argues that if there is a large amount of potential debt then there may be a negative note on the credit record. This is true at very high amounts and it is a reason that some people have for cutting the credit limit.

Some credit card companies allow a limited amount of modification to a credit limit through the credit card website. Even if this is allowed, the credit limit is often only going upwards and may not allow for a lower credit limit (this is usually the case when the website asks how much the credit card user wants to increase their credit limit). In this case it is a good idea to ask for the credit limit to be lowered over the phone.

A credit limit can be lowered by calling up the credit card company and asking the card company to lower the limit. Although these calls are rare there should be a procedure to do this. At times, because it is relatively unusual, there will not be a clear procedure and it may have to be referred to a manager. A credit card company has to give a lower credit limit if a card user asks for it.

It is a good idea to ensure that there is no automatic upgrade on the account, as this may see the payment history and the recorded income and automatically upgrade the credit limit.

It is important that credit limits are always above the amount that is currently borrowed on the card. If it is lower then penalties may be incurred.

Dangers of a Credit Limit Increase on a Credit Card

A credit limit increase can add an extra measure of purchasing power to a deserving credit card holder’s account. However, a credit increase may also be a dangerous and unwise move for certain card holders if they generally struggle to properly use their available balances. Below is a list of the dangers of a credit limit increase on a credit card.

Damage to credit utilisation ratio

The credit utilisation ratio is one of the means by which creditors assess a credit card holder’s risk. They take the amount of credit which is available to a given credit card user and compare it to how much the person is actually using. If the ratio is above 50% of used credit to available credit, then creditors will take notice. It may also result in the individual’s credit score being docked points. If the ratio reveals that more than 75% of the available credit is being employed, creditors may spring into action by reducing the amount of credit that they can have access to, increasing interest rates and shortening repayment terms. Furthermore, the card holder’s credit score will lose more points because their ratio is even more lopsided. For this reason, card holders should always budget their expenses in order to ensure they do not damage their credit utilisation ratio and, subsequently, their credit scores.

Overspending

More than just overspending according to one’s credit utilisation ratio, a credit limit increase carries with it the danger of overspending according to one’s own personal means. Credit cards are great tools to help people build creditworthiness and open up opportunities for bigger and better lines of credit in the future, such as personal loans, mortgages or investment loans. However, by using a credit card to spend beyond one’s means, card holder’s put themselves into debt, and debt can spell trouble for other areas of their life. Common consequences of debt include failure to pay off utilities and bills, shortages of funds for recreation and entertainment and an inability to save for the future.

Carrying a balance

Card holders who carry a balance from month to month incur interest that not only makes the total cost of their credit card more expensive but also drains them of their savings. By requesting a credit limit increase, card holders may be tempted to spend more than they have previously. And while such extra spending may not result in severe debt or damage to one’s credit utilisation ratio, it can nonetheless require the card holder to carry a monthly balance, losing money to interest which could have been avoided with sound money management and adequate budgeting.

Default

Beyond damage to one’s credit utilisation ratio, overspending according to one’s personal means, and carrying a balance between billing cycles, perhaps the biggest danger of a credit limit increase is that card holders will spend so much that they cannot afford to repay their balances. Another word for this is default, and it can bring about serious repercussions. Not only is the creditor likely to close the credit card account, which will further damage the person’s credit score, but interest will accrue on the balance for as long as it remains unpaid, sinking the credit card holder deeper and deeper into debt. The chances of being approved for a credit card in the future are slim after a default, and if such borrowers do happen to qualify for a credit card, their terms and conditions will be much less favourable.

What Happens When Spending Exceeds Credit Card Limits

There are times that a purchase may need to go over the credit card limit. Most of the time, the credit card company will allow the card to surpass this barrier, particularly if the customer has good credit, because they charge a great deal of money to go over the limit. In fact, people often find that the over the limit fees are much greater than they expected, and more than one credit card customer has had trouble paying the bill after going over the limit a few times in the same billing period. This is one of the ways that credit card companies make a great deal of money from their customers.

Successfully avoiding such fees is one of the ways that consumers can save money on credit cards. Over the limit fees can run as high as $40 per transaction. These fees can be even higher in some cases. Most credit card companies will allow spending of ten to twenty percent more than the actual credit limit. However, in addition to the over the limit fees, the card holder may also be responsible for paying higher interest fees when the statement comes due, depending upon the terms of the card holder agreement.

People can run into real problems with over the limit fees if they aren’t careful. For instance, if they spend money at restaurants and other merchants which only charge part of the amount up front and then bill the rest at a slightly later date, the customer may inadvertently allow their balance to go too high, resulting in over the limit fees on every transaction that is charged afterwards. This can result in hundreds of dollars in fees in a single billing cycle. Sometimes a person can set up alerts to let them know when they are about to go over the limit. In some countries, like the United States, it is against the law for credit card companies to charge over the limit fees unless the consumer have authorised their card to go over its limit beforehand.

Founder - Roland B Bleyer

Roland Bleyer

Founder of Creditcard.com.au. Roland has extensive knowledge about credit cards in Australia. Known as a credit card expert, he has been featured on tv and in various publications. Some popular offers on our site right now include the ANZ Low Rate. Ever popular with no annual fee first year, low purchase rate and 0% balance transfer. Have a look also at the 0% balance transfer HSBC offer with no balance transfer fee, plus an annual fee waiver each year you meet a spend criteria.

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