Your credit score helps determine the interest rate you’ll pay for loans, how much credit you’re eligible to receive, and it can even affect other monthly expenses, such as auto or homeowners insurance.
Keeping your credit in tip top shape may actually help save you money in some cases. With that in mind, how do you know if it’s a good idea to open a new credit card or to close some credit card accounts? Let’s find out!
Opening credit card accounts
Opening a new credit card isn’t necessarily detrimental to your credit score in the long term, although there may be some potential negatives in the short term. As you might expect, opening a new credit card account will place a new inquiry on your credit report, which could cause a drop in your credit score. Any negative effect due to the inquiry is often temporary, but the long-term effect depends on how you use the account after that (not making minimum payments, carrying a high balance, etc.).
Opening a new credit card account can affect your credit rating in two other ways. The average age of your credit accounts can be lowered since you’ve added a credit account that’s brand new (i.e., the older the account, the better it is for your score). On the plus side, opening a new credit card account can reduce your credit utilization. For example, if you had $5,000 in available credit with $2,500 in credit card balances, your credit utilization is 50%. Adding another card with $2,500 in available credit with the same balance total of $2,500 drops your credit utilization to 33%. A lower credit utilization can help your score.
Closing credit card accounts
Closing a credit card account can also affect your credit score, largely due to some of the same considerations for opening new credit card accounts. Generally speaking, closing a credit card account likely won’t help boost your credit score, and doing so could possibly lower your credit score for the same reasons above (lowering the average age of your accounts, increasing your credit utilization, etc.).
First, the positive reasons to close the account: This might be obvious, but closing a credit card account will prevent you from using it. If discipline has been a challenge, instead of closing the account, you might consider simply cutting up the card or placing it in a lockbox.
Second, the negative reasons to close the account: Closing a credit card account when you have outstanding balances on other credit card accounts will raise your credit utilization. A higher credit utilization can cause your credit rating to fall. You’ll also want to consider the average age of all of your accounts, which can play a big role in your credit score. A longer history is better. Closing a credit account that was established long ago can impact your credit score negatively by lowering your average account age.
Fair Isaac, the company responsible for assigning FICO scores, recommends not closing credit card accounts if your goal is to raise or preserve your credit score.[i]
Would opening or closing a bank account have any effect on my score?
Closing a bank account has no effect on your credit rating and normally doesn’t appear on your credit report at all. When you open a bank account, however, your bank may perform a credit inquiry, particularly if you apply for overdraft protection. A hard inquiry (such as an overdraft protection application) can cause a temporary drop in your credit score. Soft inquiries – which are also common for banks – will appear on your credit report but do not affect your credit rating. Banks may also check your report from ChexSystems[ii], a company that reports on consumer bank accounts, including overdraft history and any unresolved balances on closed accounts.[iii]
Just like a garden, the accounts affecting your credit score need to be nurtured – and sometimes pruned a bit. Checking in on your credit report every now and then may help you keep your score as robust and thriving as it can be!