People are always asking me: Does closing a credit card hurt your credit?
Closing a credit card does not hurt your credit directly. But closing a credit card may hurt your credit indirectly.
Confused? Let’s explain…
What is credit?
First let’s go back a step and explain how a Fico score is calculated.
A fico is score is calculated by the following:
- 35% Timely payments – paying all of your bills on time
- 30% Credit utilization – how much of your credit limit you spend (less then %15 preferred)
- 15% Credit history- for how long you have credit
- 10% Credit mix- the type of accounts you own
- 10% New credit- how many credit pulls or new accounts you have
(For more on this, see: The 5 Most Important Factors In A FICO Score.)
After understanding how a Fico score is calculated, you’ll realize that by closing a credit card you may be hurting your credit utilization (even if the fact that you closed a credit card is not a red flag on its own). For example, let’s say you have four credit cards, each having a $5,000 credit limit (totaling to $20,000.) You spend a total of $10,000 on your credit cards. Your credit utilization would be at 50% ($20,000 limit with $10,000 spent.) Now, by closing one credit card, your utilization would become 75% even without spending an additional dime ($15,000 limit with $10,000 spent.)
TIP: If you have a second card with the same bank, they may allow you to transfer the credit line to the other card, so this will save you from this headache.
If you’re closing your oldest credit card, then this may affect your credit history. How? You will be losing your oldest trade line.
For this reason, I always recommend that the first two or three credit cards that you open should be credit cards with no annual fees. As a result, you would be able to keep them open for as long as you live.
It is beneficial to have five open trade lines with a mix of revolving loans (credit cards etc.) and installment loans (car loans, mortgages etc.) By closing a credit card, you will be losing one of your trade lines. This can hurt your credit.
If you want to close a credit card, make sure to transfer the limit to another open credit card. Also, ensure that it is not one of your first three credit cards. Be careful to have five open trade lines at all times. If all of the above conditions are met, then closing a credit card won’t hurt your credit enough to make you poor.
If you’re closing a credit card it is a great time to rethink the reason you opened the card in the first place. (Maybe it wasn’t the best credit card for you.) Need help choosing the right credit card? Hop over to our credit card page found here and let us help you choose the perfect credit card!
See you next week!