How Does Closing An Account Impact My Credit Score?

A common mistake made by individuals who what to increase their credit scores is to cancel credit cards that are either not in use or have an offensive annual fee.  The problem is this…closing credit cards can lower your credit scores, instead of raising it.  This doesn’t make much common sense but credit scoring systems are not common sense tools. They’re going to operate based on what research and science has taught their developers, not what makes common sense.

Before you close a credit card consider the amount you owe on the card as well as the credit limit, your current and past payment history, and the length of time you have had this card.  Follow me…

Amount you owe and the credit limit – Credit scores consider how much of your credit limit you’re using, which is also known as credit card utilization or revolving utilization. The credit limit is the maximum amount you can charge on that account.  Your utilization is determined by comparing the total amount you owe on all your credit card accounts compared to the total available credit limits on your open cards.  You want to keep this as low as possible.

For example, you have 4 credit cards with a combined credit line of $50,000 and you owe a total of $10,000. Your utilization is 20% (10,000/50,000); in other words, you have used 20% of your available credit.  Let’s say you owe nothing on one account with a credit line of $10,000 and decide to close it. You still owe $10,000, but your credit line has been reduced by $10,000 and is now $40,000. You have now used 25% of your available credit. Your available credit has decreased and your utilization has increased, which is not good for your scores.

Your current and past credit history – Closed accounts are also used to determine your credit scores.  Even though this account is closed, it contains information on how you have paid this bill in the past as well as its age. If you have been late in the past, this will be considered in the credit score, but so will paying on time. This closed account is no longer considered active and is not evaluated for current payments, only historical.

There’s a better way – If you don’t want to use the card or cards any longer then that’s fine.  My advice is to remove any cards you don’t want to use from your wallet.  If you owe money on any, pay them off as soon as possible.  If you don’t owe anything on them, use them at least once a quarter to keep the account active. Make sure you pay them in full when the bill arrives. Why should you do this?  Some bankcard issuers have a policy of closing accounts that haven’t had any activity in the past 12 months.

John Ulzheimer is the President of Consumer Education at SmartCredit.com, the credit blogger for Mint.com, and a Contributor for the National Foundation for Credit Counseling.  He is an expert on credit reporting, credit scoring and identity theft. Formerly of FICO, Equifax and Credit.com, John is the only recognized credit expert who actually comes from the credit industry.

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