When it comes to the best ways to increase your credit score, there’s a lot of information (and misinformation) floating around out there about it. For example, many people falsely assume that closing a credit account will automatically increase their score. This could not be farther from the truth. In fact, in most cases, closing a credit account will put a ding in your score. Here’s why:
1. It will affect your revolving credit utilization rate.
Your utilization rate is the percentage of available credit you use across all of your credit card accounts. This utilization rate will change if and when you close an account. Those changes could have a negative impact on your score, especially because the utilization rate is part of the formula used to calculate your FICO credit score (30% of it).
2. It will remove lengthy credit history you have built.
15% of your FICO credit score comes from the length of your credit history. This means that the longer you have had credit, the better. If the card you are removing is one of your oldest accounts, you can expect removing it to cause a significant ding in your credit score. On the other hand, you won’t need to worry about decreasing your score as much if the account you’re planning on closing isn’t the oldest.
3. It could remove an important type of credit from the credit mix.
The mix of your credit accounts comprises 10% of your FICO credit score. This means that ideally, you should have at least one of each of the different types of credit accounts available showing up on your credit report: a revolving account, an installment account, and an open account.
An account that does not have to be paid in full each month and whose payment can vary each month is called a revolving account. Credit cards (whether bank issued or non-bank issued), or home equity lines of credit are all examples of this kind of account.
An account that requires a fixed monthly payment for a fixed amount of time is called an installment account. Examples of installment accounts include a mortgage, a car loan, a student loan, a home equity loan, or a signature loan.
When account that has no “line of credit” and must be paid in full each month, it is called an open account. Because this type of account still shows up on your credit report, you’ll have to be punctual and exact in paying them in order to maintain good credit. A cell phone account, utility accounts, and cable or satellite TV are all examples of open accounts.
A Better Alternative
Instead of closing your credit card, the best way to increase your credit score is to pay off the credit card and leave it open as a revolving account. In addition to keeping an older account on your credit report and adding to the “mix” of available credit that you have, this strategy also gives you a more favorable utilization rate.