Credit Limits and Their Impact

Credit limits are the maximum amount of money a lender offers a borrower. Whether as a credit card issuer, home equity line of credit, or other kind of revolving credit account. There is a maximum  
Credit limit determined for the amount of money available to the borrower. That amount is his/her credit limit.

The lender sets a credit limit when extending the offer of credit to the borrower. This will be based on the borrower’s debt to income ratio, credit score, payment history, and other factors included in the loan application.

Loans with collateral, such as mortgages or home equity lines of credit, set credit limits based on the borrower's income and the property's value or remaining equity. This article, however, pertains to credit card accounts versus other types of loans.

The Difference between Credit Limit and Available Credit

Credit Limit vs. Available Credit

Credit card issuers set a limit to the amount of funds you can use on a particular credit card account.  A credit card with a $5,000 credit limit, for example, means the maximum amount of money available. At any given time, you can use the $5,000 line of credit.  The available credit is how much line of credit has been used and the amount of your credit limit that you haven't used yet. So on a $5,000 credit limit, if you spend $3,000 on that credit card, you’ll have another $2,000 left over in available credit. If you paid down by $1,000, you’d have $4,000 available. Credit card debt is “revolving” debt, meaning the amount revolves around how much you use and how much you pay down monthly within the credit limit range.

When and Why Your Credit Limit Changes

A creditor may increase your credit limit if you have a good payment history and have not maxed out your credit limits. This is a good thing for your credit scores, because part of your score is based on your  credit utilization rate. It can also be risky to have an increased limit if there is a danger that the higher credit limit will increase your borrowing to match. As long as you don’t have a spending problem and continue to pay off your credit card debt diligently, a higher credit limit should be welcomed.

There are some cases, however, where your high credit limit could get so high that you will look less attractive to lenders. If you have a total credit limit that is much higher than you could afford to repay or if you maxed out all of your credit, then lenders are unlikely to extend additional credit. If you’ve got more credit available than you earn in a year, then you might want to ask your existing credit card issuer to lower your limits so you present a lower risk of default to new lenders.

There are circumstances when credit card issuers may lower credit limits even if you don’t ask them to. If you are late with payments, or exhibit behavior that makes it look like you might default on your account, the credit card issuers lower the limit to reduce what they could lose if you stop paying. Having your credit limit reduced in this way will certainly be bad for your credit scores, and might put you at greater risk of defaulting or going over your credit limit.

Navigating Over-Limit Situations

Going Over Your Limit

It used to be common practice for a credit card issuer to let people over-spend and exceed their credit card limit. The benefit to the borrower was that the transaction would not be declined at the cash register. But creditors charged standard “over limit” fees for every billing period when the account exceeded the credit card limit. That fee was typically something like $35, added to your credit card balance—making you go even deeper into debt every billing cycle. On top of that, going over a total credit limit could trigger a penalty rate, which would increase the interest rate paid toward the debt, and you might lose any credit card rewards you had built up.

It was common for people to be trapped in a cycle of fees, because the over-limit fee itself could push them back over the limit. This kind of thing became such a problem that new laws were passed to limit the practice.

Ten years ago, the Credit Card Act was passed, and limited the kind of fees creditors could charge. Now, borrowers must explicitly opt in to have an account be able to go over the limit and incur over-limit fees. And those fees are capped; one can only be charged the over-limit fee two months in a row if it stays over the limit. The law states the first over-limit incident should incur a maximum fee of $25, and a second incident within six months would incur a $35 maximum fee.

But another provision of the law is that the over-limit fee can’t be greater than the amount you’ve gone over. So if you go over your $5,000 limit to $5,010, you can only be charged a maximum of a $10 over-limit fee.

Obviously, your best bet is to not opt in to over-limit fees. Yes, your card may be declined if you reach your limit, causing embarrassment and inconvenience, but you’ll avoid a lot of extra fees. The Consumer Financial Protection Bureau (CFPB) “CARD Act Report” found that in the first 2 years it was in effect, the Credit Card Act saved borrowers 2.5 billion dollars in over-limit fees.

Proactively Managing Your Credit Limit

Increasing Your Credit Limit

You can increase your overall credit limit by opening an additional account, but there are some drawbacks; you’ll be increasing your exposure to risk, taking a hit to your credit scores (because of the new credit and the recent inquiry), and looking riskier to lenders. On the other hand, a new account might have lower introductory rates, or offer you a good deal on a balance transfer.

Another way to increase your credit limit is simply to ask your current creditors. You can call and ask for higher credit limits. If you have a good credit history, your credit score is high, and your income is enough, it can be easy to get card issuers to increase your credit limit without the need to open a new credit card account.

Be aware that this request will likely trigger a hard inquiry on your credit reports, so look over your credit history, credit utilization rate, before you ask, so you can be sure everything there is accurate and up to-date. If there is anything negative on your credit reports that might lead the creditor to decline your request, spend some time addressing it before you approach them asking for higher credit limits.

If you use your creditor’s website to manage your account, you may be able to log in online and ask for a credit increase through the internet. If that option is not available, simply call their customer service number and explain that you’re interested in increasing your available credit. Your creditor gets these calls all the time and will know exactly how to help you.

Review Your Credit

Before you ask for high credit limits, you need to make sure your credit report information is accurate and reflects positively on you. If you don’t know where to start, a credit report review is available. Our nonprofit credit counselors help you improve your credit to get the best terms and the optimal credit limits on all of your accounts.

And if you’re thinking of raising your credit limit because you’ve maxed out your existing accounts, then we urge you to seek debt counseling first. Don’t address your debt problems by incurring more debt.