Does Closing Accounts Improve Credit?

After paying off a credit card or another similar account, many people opt to close out the account so that they are not tempted to accumulate more debt. While this is a sound strategy, it does not help your credit score. In fact, quite the opposite may be true, depending on your situation.

Lowering Available Credit

When you close out a credit account, it essentially lowers the amount of available credit that you have to use. While this might sound like a good thing from a practical standpoint, the credit bureaus do not see it that way. Credit bureaus look at the available credit that you have when calculating your credit score. If you do not have any available credit, this reflects negatively on your credit history and your credit score.

Credit Utilization Ratio

To calculate the impact of this transaction, the credit bureaus use a tool known as the credit utilization ratio. This is a ratio that compares the amount of credit you have to the amount of debt. If your credit utilization ratio is too high, this hurts your credit score. For example, if you have two $5,000 credit cards and they are maxed out, your credit ratio is 100 percent. If you pay off one of the cards and leave it open, your credit utilization ratio is 50 percent. If you pay off one card and then cancel the account, your credit utilization ratio is back to 100 percent.

What to Aim For

While having some debt will not necessarily hurt your score, you want to keep it below a certain level so that the credit bureaus look favorably upon your situation. According to Bankrate, you want to keep your credit utilization ratio to somewhere between 30 and 35 percent, if not lower. Once you get your debt up above that threshold, it starts to count against you. Paying down your credit accounts in this situation can help you improve your score.

Length of Credit History

When you close out a credit account, it can also hurt your score in another way. One of the factors the credit bureaus consider when calculating your credit score is the length of credit history. If you close out the account that you have had open for the longest, this will lower the amount of credit history that the credit bureaus use when calculating your score. This means that you should most likely just leave the accounts open even if you are not using them.