What happens to your credit score when you cancel a credit card? There are an awful lot of myths and misinformation surrounding this topic. Depending on who you talk to or what you read on the internet, canceling a credit card can be the best thing that could happen to your credit score, or the worst mistake you could possibly make.
Neither of these opinions accurately reflects the way your credit score is actually calculated. Let’s take a look at what happens to your credit score when you close or cancel a credit card.
How Closing Credit Cards Affects Credit
There is one major way in which closing a credit card can affect your overall credit score. Closing credit cards changes the amount of overall credit available to you. This makes a difference in your score because roughly 30 percent of your overall credit score is based on the ratio between the amount of money you owe versus the amount of credit you have.
For example, let’s say you have two credit cards. One has a credit limit of $3,000 and one has a credit limit of $5,000. You are carrying a combined balance of $3,500 between the two, so you transfer all of your debt to the $5,000 card and pay off the $3000 card. Hooray for you! Having paid off that card, you promptly close it.
Well, in this scenario, your credit score would go down. Why? You owe the same amount of money, but now you are using more of your available credit because your available credit was reduced by $3,000. Since your debt-to-credit ratio was increased dramatically (from 44 to 70 percent), you are considered a riskier borrower, mathematically speaking.
Is Closing a Card Always Bad?
This isn’t to say you should never close a credit card account. Remember, if you don’t have any debt, your debt-to-credit ratio remains the same, even if your available credit drops. Zero is zero.
However, if you do have some debt and are worried about lowering your credit score by closing an account, don’t do it when you’re trying to get a car loan, mortgage or other important line of credit. Wait until after, then repair your score by eliminating the debt you have.