The term “black box” applies to many things, not just an airplane’s recording device. The term also refers to proprietary algorithms that credit issuers use to underwrite potential customers. With the assistance of firms that specialize in risk management, each credit card issuer has its own secret method of determining what credit limit to grant an individual consumer. Although we won’t know the details of that scoring system, we do know the elements that help to give it form.
Determining the risk involved in you
The general premise is that the more risk an issuer sees in you, the lower your limit will be initially. Most cards have some kind of pre-set upper limit, as well. You shouldn’t take a low-limit personally, though. Remember, you’re a total stranger to the credit card company. They are taking a risk on you. You have to prove you are a good credit risk.
Most underwriting will examine your credit history to help determine your card’s limit. Have you historically paid on time? Your past performance is indeed indicative of your future behavior. If you paid back what you borrowed (on time), if you always stayed under your credit limit, and if you regularly used your card, then all these factors will play to your favor. A lot of these factors make up vital aspects to your FICO score, and credit scores from other credit bureaus.
Factoring in debt and income
They may analyze your income or debt-to-income ratio. The higher that ratio is, the lower your limit will be. If you are already carrying a lot of debt in relation to how much income you are generating, a credit card issuer will be nervous about allowing you to run up even more debt against that income.
Issuers may look at the total amount of credit you have available to you based on the limits on your other credit cards. This can cut both ways. If you have a lot of unused credit on other cards, the issuer may see this as a positive sign – you use credit sparingly and responsibly. This, coupled with a great credit history and a high credit score, could work to your favor. If, however, you have a lot of credit but much of it is already in use, then your debt-to-income ratio will be larger, and this could cut against you
Taking expenses into consideration
The CARD Act of 2009 also requires lenders to take your “ability to pay” into account, so some applications ask for your monthly payment obligations such as rent, alimony, and other debt payments. They’ll take some credit limit, say it’s $5,000, assume you immediately max out the card, and make the minimum payment each month. Will you still have enough income to add that minimum payment to your other obligations?
As you can see, there are many variables at play.
Other forces at play
What’s been the trend in regards to underwriting? The Office of Consumer Credit, a federal agency, publishes an annual report. In 2012, there were some interesting trends. Credit cards were one of the products that experienced an easing of underwriting standards — easing by as much as 35% — and this was linked to changes in the overall economy outlook, product performance, competition, risk appetite and market strategy. So it isn’t necessarily your own specific situation that influences if you get a card and what your limit is. The issuers must consider numerous macroeconomic factors, as well.
Credit limit ups and downs
As for a change in your credit limit, that depends on your payment history. If you pay that card off on time, every time, then you’ll have a much better chance of earning an increase. However, if you aren’t responsible with your payments, your limit can actually be cut.
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