It’s common knowledge that it’s a bad idea to exhaust all of one’s available credit because of what it does to your credit score.
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However, most people also don't know why this is the case: credit utilization. Credit utilization is the balance-to-available credit ratio that FICO (the largest credit scoring agency in the U.S.) factors into the “amounts owed” section that comprises 30% of one’s FICO credit score.
While it might seem simple to maintain low credit utilization by preventing your spending from approaching your credit limit, it can be easier said than done. This fact proves especially true if you have an American Express charge card, a Visa Signature credit card or a World MasterCard credit card.
While many people believe that these "no preset spending limit" [NPSL] credit cards provide unlimited purchasing power, they each have caps on the amount users can charge with them. However, consumers generally have no way of knowing what these limits are because companies do not disclose them in order to maintain the illusion of limitless spending potential.
Instead of credit card companies reporting their cards’ true limits to credit bureaus, they tend to report either the highest balance reached over a certain period of time or a card's revolving credit limit for the calculation of credit utilization, according to a CardHub.com study.
These methods are potentially damaging to consumers because when revolving credit is reported and your spending exceeds it, which is actually encouraged by credit card companies, credit utilization will reach 100 percent. It would actually be more than 100% if not for the latest FICO scoring system limiting credit utilization to that amount on NPSL cards. Similarly, when a high balance is reported, your utilization ratio will hover near 100% on a monthly basis as well, assuming your spending does not generally fluctuate too drastically on a monthly basis
Sometimes, however, issuers do not report credit limits for NPSL cards. If this is the case or your card is reported as an open line of credit, credit utilization for that card is merely omitted from FICO’s credit scoring.
Similarly, the study revealed that credit card companies can use whatever credit limit reporting method they want and change it whenever they want, making reporting unpredictable.
Additionally, some issuers even refuse to be transparent and public about their reporting practices. Thus most NPSL card users have no clue how their cards’ limits are reported to the credit bureaus and face difficulty in trying to determine this information. Consequently, they cannot adjust their spending to compensate for how limits are reported and even responsible card users will likely wind up with high credit utilization and lowered credit scores.
Therefore, if you like your NPSL credit card and want to continue using it, only do so if you are certain you can keep your credit utilization low. This can be achieved either when no credit limit is reported or when a revolving credit limit is reported and you are careful to keep your spending well below it. According to the Card Hub study, the following NPSL issuers meet these credit reporting requirements: Chase, Citi, Capital One, USAA, Wells Fargo, Bank of America (only its NPSL MasterCard).
Overall, because of their potential for credit score damage and their lack of truly unlimited spending power, consumers should avoid using NPSL cards if low credit utilization cannot be assured. Ultimately, there is no real reason to use these cards anyway, as they provide no real benefit relative to traditional credit cards and are inherently deceptive.