“John, I’ve heard if you close a credit card account it can lower your credit scores? That doesn’t make any sense to me. First off, is that true? Second, if it is true, how can I avoid lowering my credit score?”
This is, unfortunately, very true. Closing credit card accounts can result in a lower credit score.
This fuels the argument of some that suggest that credit scores reward consumers who are in debt, but that’s not actually true.
How Closing a Credit Card Might Hurt Your Credit
First off, there’s no guarantee that closing a credit card will lower you credit scores. It’s a possibility but certainly is not a definite.
When you close a credit card account you are no longer able to use the credit limit associated with that card.
And, because you are no longer able to use that credit limit, credit scoring models no longer consider the limit in their “balance to credit limit” measurements.
That is the one and only reason why your score could go down by closing credit cards.
Here’s How the Math Works…
If you have two credit cards each with $10,000 credit limits then you have an aggregate credit limit of $20,000.
Let’s say you have a $5,000 balance on one of those credit cards, so your aggregate balance is $5,000.
Your balance to credit limit ratio is calculated by dividing the aggregate balance by the aggregate limit, or $5,000 ÷ $20,000 = 25%.
FYI: 25 percent isn’t a terrible balance to limit percentage, yet.
If you were to close the unused credit card, for whatever reason, then you would not be able to consider the credit limit from that card, so you’d have to pull out $10,000 from the aggregate limit amount.
So, the math now looks like this: $5,000 ÷ $10,000 = 50%. And 50 percent is not good at all.
That’s the one and only reason your score could go down when you close a credit card. This is called a “spike” in your balance to limit ratio.
There are some people who believe your score could go down because you are in less debt. That’s simply not true.
Closing a credit card, like in my example above, doesn’t reduce your debt by even one penny.
If you’re in $100,000 of debt with an open credit card, you’re still in $100,000 of debt with closed credit cards.
The more common myth, as it pertains to closing credit cards and lowering credit scores, is that you lose the value of the age of the account when you close it.
That’s not true.
The age of a credit card is determined by a credit scoring model looking at the “Date Opened” field on a credit report and calculating the age of that account.
That process does not change just because the card is closed.
A 10 year old American Express card is still a 10 year old American Express card whether it’s open or closed.
In fact, closed accounts even continue to age.
So, if you have a 10 year old credit card as of today, that credit card will be 11 years old one year from now.
Don’t believe anything you read on the web that suggests you should close newer accounts rather than older accounts because of the age issue.
So, Which Account Should You Close?
If you’re going to close a credit card account, then you should choose to close cards with lower credit limits rather than those with higher credit limits.
Closing a retail store credit card with a $1,000 credit limit is going to be much less problematic for your credit score than closing a credit card that has a $25,000 credit limit.
Of course, if by closing a credit card account you go from having a very low balance to limit ratio to, again, having a very low balance to limit ratio, then the impact to your credit scores is likely to be immaterial.
It’s only when, by closing a card, you leave yourself with a much higher balance to limit ratio that you need to be concerned about your scores.
Here’s a bit of free advice…I would never close a credit card before applying for any sort of loan.
Wait until after you close on your loan, and then close any unwanted credit cards.
John Ulzheimer is the Credit Expert at CreditSesame.com, and a credit blogger at SmartCredit.com, Mint.com, and 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. The opinions expressed in his articles are his and not of Mint.com or Intuit. You can follow John on Twitter here.