A question that we get asked a lot is “Will closing a credit card hurt my score?” People are worried that they have too many credit cards and want to close some older accounts, but are paralyzed by the thought it will hurt their credit.
I always stress that the best thing you can do to improve your score is to pay your bills on time and in full. That’s especially true for credit cards since the interest rate for credit cards, even low interest rate credit cards, is really high. You never want to only pay the minimum payment unless you’re using the debt snowball or debt avalanche method of debt elimination. Paying your credit card off every month will build your credit score and avoid interest charges.
But if you have trouble controlling your spending, or have an annual fee credit card that you don’t use anymore, you may want to cancel an old credit card. The bad news? There will be an effect on your credit score. The good news? Closing a credit card won’t hurt your credit very much at all!
You probably know that having a credit card for a long time is good for their score, but do you know how important it really is?
The formula that determines your credit score is a secret. No one outside of the credit bureaus knows exactly how it’s calculated, but we have a pretty good idea.
1. Payment history
2. Credit utilization
3. Credit inquiries
4. Credit length
5. Credit types
These aren’t all equally important. The best estimate for the weight of each group is below:
As you can see, credit length only accounts for about 10% of your score! It’s three times more important to pay your bills on time and in full than it is to have old credit. Nearly two-thirds of your score is determined by paying your bills on time and not spending more than you can pay off.
Anyone that has missed a payment knows the pain of having that black mark on their report. Negative information, like a missed payment, bankruptcy, or consumer proposal, will remain on your report for years after it happened. When they finally drop off, you’ll notice a nice boost to your credit score.
But you may not know how long positive information lasts on your credit report. If you have a credit card account in good standing, it often feels like nothing is happening. That’s the whole point – if you’re in good standing already then there’s not much you need to do to improve your score. But positive information can remain on your report for a long time – up to 10 years in most cases. Some reports may keep positive information indefinitely.
Since positive information stays on your report for so long, don’t be scared about closing old accounts. They’ll still help you for years after they’re closed, which is plenty of time to build your score with other cards.
But you want to know exactly how cancelling a credit card affects your credit. Let’s go back and take a look at the five factor that determine your credit score:
Once you cancel a card, you can’t use it anymore. You won’t get any more positive marks for not missing a payment, but you also won’t get any more negative marks. But the previous information, good or bad, is still visible for years afterwards.
If you’re able to cancel the card with a balance still owing, you don’t erase the debt. You’ll still be required to make monthly payments
Effect on score = negligible.
When you cancel a credit card, you reduce your available credit. It is important to keep in mind though that the usage of your available credit does affect your credit score. For example, imagine you have 3 credit cards set up like this:
· $1000 limit, $200 used
· $1000 limit, $150 used
· $1000 limit, $650 used
Your total credit limit is $3000, spread across 3 cards. Your total balance is $1000, spread across those same cards. Your credit utilization rate (the amount of credit you use divided by the amount of credit you have) is 33%. That’s higher than recommended.
If you pay off card 2 and cancel the card, your total balance lowers to $850, but your total limit is reduced to $2000.
Your utilization rate then changes to 42.5%, even though you actually reduced your total debt. You don’t want that on your credit report.
Effect on score = heavy.
Unless you’re also applying for a new credit card, cancelling an old card won’t result in a credit check.
Effect on score = none.
This is the main fear of people who want to close an old credit card, and what we were talking about until now. It does have an effect on your score, but it’s not huge.
Effect on score = light.
Having a line of credit, a credit card, and a mortgage is better for your score than having just a credit card. If the card you want to cancel is your last credit card, then you’ll reduce the different types of accounts you have. But if you have more than one card, your score won’t be affected.
Effect on score = light.
If you have a card that’s holding you back, or you want to get the best rewards credit card, then don’t let the fear of keeping all your accounts open stop you!