To close or not to close? Learn the facts behind this age-old debate and how you can keep a closed credit card from wreaking havoc on your credit score.
The chatter around closing a credit card is far ranging, from “Closing a card will ruin your credit score,” to “You should close cards immediately when you don’t want to use them, so you avoid the temptation.” But, how does closing a credit card really affect your credit score? Credit scores and the way they are calculated can be confusing, so it’s important to know how your credit actions affect your score before you make them. Only then can you decide whether closing an account or keeping it open will help or hurt your credit.
Effect on your credit score
Length of credit history is one of the five categories that FICO generally uses to evaluate your score, yet, contrary to popular belief, closing a card doesn’t immediately shorten your credit history length. Closed accounts actually stay on your report for many years—10 years for accounts in good standing, seven years for those that aren’t. They will show as “closed” on your account, but they will still be there, and they will continue to age. If you close an account after 10 years, for example, and the account stays on your report for another 10 years because it is in good standing , that account will be aged 20 years when it does fall off your report. Closing an account, however, does bring you that much closer to the year when those cards will fall off of your report, so eventually it will affect your credit history length—just not as immediately as many think.
The biggest effect on your credit score from closing a card will likely come from a spike in your credit utilization ratio. This ratio compares how much credit you’re using with the amount of credit you have available and plays a large role in your credit score. When you close a card without a balance, you eliminate all of the credit available to you on that card, yet the amount of credit you’re using will stay the same. For example, say you have two cards, both with a $5,000 limit, and you carry a balance of $2,000 on one of the cards. Your total credit available is $10,000 and you’re using $2,000 of that $10,000, so you have a credit utilization rate of just 20 percent. If you close the card without a balance, the amount of credit available to you drops to $5,000, but you’re still using $2,000 of that $5,000, so your credit utilization score will rise to 40 percent, causing a drop in your credit score. Now that you know why closing a card can harm your score, consider the situations where you should avoid closing a card—and a few where it might be your best option.
When not to close a card
You’re carrying a balance on the card.
You should make sure to pay off any debt you have on a card before you close it. When you close a card with a balance, the limit on that card goes to $0, so it looks like you’ve more than maxed out a card—which is bad news for your credit score.
If you just closed another card.
Closing a card isn’t always a bad idea—but closing several at once can attract negative attention from lenders and hurt your score. It might hurt your credit utilization ratio, and, in the long run, when all of these accounts drop off your report at the same time, your credit history length may drop dramatically. If you do want to close several cards, try to wait at least a few months in between closing each account.
You’re about to apply for a loan.
If you’re about to apply for a loan for a car, house or even another credit card, you want to maintain consistency in your credit report, and that means not closing any accounts. A drop in your utilization ratio right as you’re applying for another loan could hurt your chances at being approved.
The card represents almost all of your credit.
If the card you’re contemplating closing has the highest limit of your credit cards and/or represents almost all of your available credit, closing it will likely cause your score to drop dramatically. You should also consider that you may need credit to pay for any type of large, unforeseen expense, and closing your biggest source of credit will leave you not only without access to credit, but also in a bad position to be approved for new credit.
When to close a card
It’s costing you needless money.
If your card is costing you in high annual fees or inactivity fees, it may be time to cut it off. Paying money for a card you’re not using doesn’t make sense, especially if the high fees are a tradeoff for rewards programs that you’re no longer working toward.
You want to be done with debt.
You should talk to your financial advisor before going debt free, but if you’ve decided enough is enough, it might be time to close that unused account. Remember to wait several months or even longer between closing accounts, and make sure you pay off all of your debt before closing. You know your spending habits better than anyone, and if you know that strip of plastic is going to be too much temptation, closing your account may be a better option than continuing to rack up high balances.
You’re splitting from a joint account owner.
If you’re going through a divorce and you share an account with your ex, you can be held responsible for any outstanding bills as long as your name is on the account. While the divorce decree may say otherwise, your creditors are still going to look to both account holders as long as there is a balance, so closing the account can save you from an ex’s spending.
Your account is a victim of fraud.
If you report your card lost or stolen, the issuer usually cancels it. However, if you can’t stop an erroneous recurring bill from being charged to the account or if someone you know has access to the account and is using it irresponsibly, it might be easier to cancel the account.
Tips for closing an account
If you decide to close an account, there are some ways to ensure any damage to your credit score can be as minimal as possible. Consider the following:
- Switch all recurring bills to another card beforehand so these bills don’t show as unpaid.
- Pay down your debt on other cards as much as possible before closing—this can help keep your credit utilization ratio as low as possible.
- Monitor your credit report after you cancel—in 30 to 60 days, the account should show as “closed.”
- Your lender/creditor will usually send a letter confirming the account closure—make sure you receive this letter and keep a copy for your records.
- Lenders typically like to see a credit utilization rate below 30-35 percent, so you should keep this in mind before you close an account that will put you over this threshold.
Above all, you should take into account your personal situation when deciding to close a card. Check your credit report beforehand to see what would happen to your score if you closed an account, and consider your current score. If you already have a stellar score and you close one account, you’ll likely still have a high enough score to qualify for good rates, even if it does take a temporary dip. The same is true if you have very poor scores—if you close one account, your score will still simply be considered “poor,” but you’ll have one less credit card to rack up debt on. Make sure you consider how much you use the account, how much you need it, whether you are able to repay the debt and what the account is offering you before you decide to close it. And remember, you don’t need to make all credit decisions based solely on your score; instead, consider your situation and whether keeping the account open will ultimately hurt or help your finances.