Closing Credit Cards Hurts Credit Scores – Episode #78

November 5, 2008 by  
Filed under Episodes


Is it true that closing credit card accounts hurts credit scores?  Yes, this is true.  Here is the reason.  Your credit score has a major factor called “amount owed” which accounts for 30% of the score.  Amounts owed not only looks at the total amount you owe, but the ratio of the amounts owed or balances against total available credit.  It turns out that people who max out their cards, are riskier.

So why does a person lose credit score points for closing down a credit card they don’t use?  Let’s say they have 6 cards with a total credit limit amount of $30,000 on those cards.  Now, let’s say you close down one that has a $10,000 limit.  Now, your total credit limit available figure is $20,000.  Yet, if your balances didn’t change your usage ratio is higher, and that’s a risk factor for credit scores.

Is it better to have 3 credit cards with high balances, say 50% utilization on all 3 of them,  or 6 credit cards with low balances, such as 25% of utilization on all 6 of them?  From a credit score perspective, the 6 card scenario is better.

I keep saying “from a credit score perspective”, because there are other reasons to close down credit card accounts – divorce, temptation to spend, and high annual card fees, just to name a few. If none of these are impacting you, then you should cut up these credit cards and throw them in a drawer or a safe place.

How much will your credit score suffer?  Not much in many cases, as most of us are closing down cards we use the least that probably have smaller limits.  But, why risk it, especially if you are thinking about a car or home loan anytime soon?

Closing credit cards being a good thing for your credit score is probably the #1 myth.  Check out our other top credit score myths.

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Comments

2 Responses to “Closing Credit Cards Hurts Credit Scores – Episode #78”

  1. Anon on February 13th, 2009 9:49 am

    Love your web site. I have a question that I can’t seem to find an
    answer to anywhere..only consumer’s opinions. I recently got notice
    that my Capitol One card APR went WAY up. This is a car we don’t
    typically use anyway so don’t have a balance on it. This has really
    angered us and our first reaction was to cancel the card. So, my
    question is, is it better to cancel the account (before they would
    spontaneously cancel us for no apparent reasons, which I read is
    happening too) or just put the card away and not use it, but keep the
    account. Which is better for our credit score. Currently we have a
    stellar credit score. Thanks so much for your help.

  2. VideoCreditScore-Andy on February 13th, 2009 1:51 pm

    Great question. Credit card companies are raising their APRs and probably doing so in a very broad way. I’m betting that one of the metrics they are looking at is overall average apr. Now, the Fed posts this rate around 13.38% and I’m sure the credit issuers are trying to raise the average rate as they will equate this with higher profitability. Higher average APRs will mean a higher average profit. There are too many stories of people having rates raised for no reason.

    You are additionally right that cards are being canceled for lack of use.

    Here’s the winning strategy: Keep your card open, use it once a year and make a payment immediately. This way you keep your card from being closed [my card closure notice said I hadn’t used it in a year as a reason]. You don’t want to close the card as your credit card utilization ratio will take a hit. You also want to try to keep your card utilization around 10% for the best score possible. It’s worthwhile to set up your closing dates and due dates and start a habit of paying off your cards 2x per month.

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