Using Credit Limit Fully Lowers Credit Score
Unexpected Expenses Lead to Inability to Cope... Vicious Cycle of Credit Decline
Concerns have been raised that reducing credit card limits could cause various side effects, particularly among low-credit consumers. It is analyzed that low-credit users may fully utilize their reduced limits, leading to a decline in credit scores, and prolonged reduced access to credit could result in unexpected outcomes.
On the 19th, the Korea Institute of Finance emphasized this by citing the U.S. case. The U.S. Consumer Financial Protection Bureau (CFPB) published a report last June analyzing the impact of credit card limit reductions on consumers.
According to the report, credit card companies reduced limits not only due to consumers' credit risks but also because of changes in economic and regulatory environments. Between June 2008 and January 2010, during the global financial crisis, U.S. card companies cut credit limits by a total of $405 billion (approximately 530.3 trillion KRW) due to concerns about consumers' credit risks. Primarily, consumers with low credit scores were targeted. Among those whose limits were reduced, consumers who had delinquent payments within the past two quarters were about four times more numerous than those without delinquencies.
When credit limits were reduced, negative impacts such as decreased credit accessibility were relatively more significant among consumers with lower credit ratings. A comparative analysis of credit cards with reduced limits between the fourth quarter of 2018 and the first quarter of 2019 showed that after the limit reduction, the remaining credit limit (the credit limit minus the amount already used) significantly decreased. Except for the top-tier (super-prime) rating, the median remaining limit for each rating was found to be less than $400.
In particular, compared to groups with good credit ratings, groups with lower credit ratings tend to have fewer credit cards, so when the limit on their primary credit card is reduced, their credit purchasing power is significantly restricted. While consumers from the top to middle tiers restored their credit usage to original levels within three quarters after the limit reduction, lower-tier consumers did not recover their reduced credit usage to previous levels.
Meanwhile, there was also a tendency to use credit cards with reduced limits more aggressively. This led to negative effects on credit ratings. As limits were reduced, users tended to max out their available credit, making it difficult to respond to unexpected expenses.
Additionally, since most credit scoring models heavily weigh credit card usage, fully utilizing the available limit can be considered a sign of high credit risk. Consequently, credit scores decline, and if delinquencies occur, the drop in credit scores becomes even more pronounced.
Domestic card companies also lowered credit limits and reduced benefits such as interest-free installments without users’ knowledge earlier this year as market interest rates rose and funding became more difficult. Gu Jeong-han, a senior researcher at the Korea Institute of Finance, stated, "Especially for consumers with low credit ratings, reducing credit card limits can lead to prolonged reduced access to credit, making it difficult to respond flexibly to unexpected expenses," and added, "Financial authorities need to examine credit limit policies more precisely to prevent side effects."
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