Credit cards are flexible instruments for short-term borrowing that have among the highest interest rates. The big benefit with a credit card is that it helps build your credit score as you use it to simplify payments and gain rewards as benefits.
However, you may choose to close a to manage unnecessary spending or avoid hefty fines and late payment fees. While it may seem like a straightforward financial decision, closing a credit card could have a big impact on your credit score and negatively impact your overall credit profile. It is thus important to have a proper plan when you want to close a credit card.
Can closing a credit card hurt your credit report?
Credit utilisation ratio: Your credit utilisation ratio is a critical component that will take an immediate hit. Since this marks your usage of available credit, and a higher ratio shows lenders you are reliant on borrowings and could be a risk. Experts note that the best margin is to have usage ratio below 30% to keep a healthy .
In effect, with a total limit of ₹1 lakh, if you close a card with ₹50,000 limit, you’ve lost half you’re eligibility. And your usage for ₹1 lakh limit at ₹30,000 (30%) vs for ₹50,000 limit at ₹30,000 (70%), changes the ratio drastically.
Credit history: Further, the age of your could also make a significant impact on how much your score is impacted. If the card you’re choosing to close has been opened a few months or one to two years back, the hit on your historic score is much lower than if the card in question is older than 10 years.
relies on financial stability and consistency over time to convey dependability. Thus, closing an older credit card decreases the average age of your account and by association your overall score.
Payment history: Shutting a card effectively removes from record all transactions conducted through that card. This means that if the card has a strong record and boosted your , shutting it could badly impact your score.
What factors should you consider before shutting a credit card?
- The annual fees exceed the benefits or payoffs (convenience, ease of use, etc.).
- The card is compromised and has been impacted by a fraud.
- You have concerns about the credit card or its issuing lender.
- Your usage of the card has affected your score negatively.
- Small, but long-term payments have compounded into a huge debt.
How can I minimise damage to credit history?
- If the is manageable or nil, keep an older credit card over a newer one.
- Do not close credit cards in quick succession to avoid folding your credit score in one move.
- Check your before and after closing a card in order to take next steps to steady your credit score.
- For an older, less rewards card, try to use it for small purchases occasionally to keep it from becoming inactive.
Disclaimer: This story is for educational purposes only. The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.