Credit cards can be a source of short-term borrowing, using either purchases or cash advances. A credit card's ease of use and how quickly you can borrow money make it particularly attractive for emergency borrowing, but it can also be dangerous to consumers who have problems with impulse spending. Credit cards limit what you can borrow, based on the available credit line.
Most credit cards have an available credit limit on the account. You can borrow money on a credit card up to that limit. Some charge accounts such as American Express do not have a pre-calculated credit limit, but these accounts must be paid off by the time the next statement is released. A credit card company may limit the amount that you can borrow with cash advances by imposing a separate cash advance limit, usually a certain percentage of the total credit limit on the account.
Credit Utilization Ratio
Wise borrowers pay close attention to their credit utilization ratio. Just because a bank gives you a certain amount as a credit limit does not mean that it is wise to use that entire amount. When you carry balances that are closer to the credit limit on the account, lenders look at you as a higher-risk borrower. If you must borrow on a credit card, you should carry a balance no higher than 30 percent of your available credit. If you begin to go higher, you could lower your credit score, and credit card companies may lower your limit because of the perception of increased risk.
Setting Your Own Limits
Some borrowers set their own credit limits. A rule of thumb is that you should have credit lines no higher than 20 percent of your annual income. Following this rule, if your income is $50,000 per year, you should carry credit limits on all of your cards totaling no more than $10,000. Some consumers will contact their credit card companies and voluntarily have their limits reduced to this amount. A better solution may be to keep the credit limits at their current level, and keep your utilization ratios below 30 percent by using discipline concerning your spending.
Increasing your credit card borrowing places you at a higher risk of filing for bankruptcy and other financial problems. Generally, borrowing on credit cards is not a good long-term financial plan. Credit cards are usually one of the most expensive forms of borrowing. If you need to borrow money, consider a bank loan, which generally will have lower costs. Be certain that you have a plan to pay off credit card debt if you must borrow using credit cards.
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