Were you aware there is a right and wrong way to close a credit card? It can actually harm your credit if you are not careful. The effect it has on your credit depends on your individual situation.
Read on to see how you will be affected if you decide closing your card(s) is the right choice.
The Reason for Closing the Credit Card
The first question is, why are you closing the credit card? Which of the following pertains to you:
- You are behind on your payments
- You don’t need the credit card anymore
- You don’t want to pay the annual fee/interest rate anymore
Damaging Your Utilization Rate
If you are behind on your payments, you probably still have a balance. If you close the account, the balance still exists. What you remove is the ‘available balance.’
Let’s say you have a card with a credit line of $5,000 and you have an outstanding balance of $2,000. That leaves you with $3,000 in available balance. You also have two more credit cards each with a $1,000 available balance and a $300 outstanding balance. In totally, you have $3,600 outstanding. Your utilization ratio is 51%. That’s a high ratio in the eyes of a creditor.
Now, if you close your $5,000 credit card, your utilization rate increases to 130% because you removed the $3,000 available balance! This will drastically hurt your credit score. It will also hurt your chances of securing future credit.
Sometimes people close credit cards in order to eliminate the temptation of using them. That makes sense if the temptation is too large. But, you have to think of your utilization rate again
If it’s the only credit card that doesn’t have a balance, it helps your utilization rate. The open balance brings your rate down. If you close it, you take away that portion of unused credit, increasing your balance of used credit. This makes you look financially irresponsible to future creditors.
Lowering Your Average Credit Age
A part of your credit score is the age of your credit accounts. If you close a credit card that you’ve had for a long time, it lowers your credit’s average age. This can damage your credit score. Future creditors looking at your financial responsibility will also be slightly leery. They prefer borrowers with a long history of timely payments and responsible credit usage.
Getting Rid of Negative Information
Many people mistakenly think that closing a credit card with a negative history will eliminate it from their credit report. The opposite is true. The negative information stays with your credit report for the next 7 years. Closing the account may cause more damage by lowering your credit’s age or increasing your utilization rate. Instead of closing the account, fix the negative information by:
- Bringing payments current
- Lowering your average balance
- Not using the credit card, but keeping it open
If you close a credit card because of its high interest rate or annual fee, that’s another story. You can do so, but again pay close attention to the above factors. If you do close it, know that the negative implications will still remain on your credit report. When you apply for new credit, you can explain why you closed the account, though. A formal Letter of Explanation can help in this situation.
How to Close a Credit Card
If you decide closing the credit card is the right thing to do, take the following steps:
- Wait until you have the balance paid off or have it as low as possible
- Ask for the cancellation in writing
- Ask for proof of cancellation in writing back from the credit card company
- Follow up with the credit card company
Don’t make the mistake of assuming an agent closed your account when you called. Always follow up with a written letter and asking for a response in writing. This way you have written proof if the account doesn’t get closed. You may not find out for years down the road when you apply for new credit or pull your own credit report. At that point, you might remember what transpired. Having the proof in writing will help.
Just as you should use caution when opening a credit card, the same is true when closing one. Don’t assume you are doing the right thing. Figure out how it affects your utilization rate and credit’s average age. Closing your accounts responsibly will have the least negative effect on your credit.