Impact of Credit Card Cancellations on Your Credit Score

impact of credit card cancellations on your credit score
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Many credit cards often tempt users into closing their cards for good reasons. High annual fees, excessive debt, poor spending habits, or simply having too many cards to manage may cause cancellation to look like a smart choice. Some may even believe that it will improve their financial discipline or be a safeguard against their overspending. Before they do so, however, they need to know how credit scores work on a credit card and the possible impact of credit card cancellation on their credit score.

Cancelling a credit card provides short-term relief, but it can harm your credit utilisation ratio, credit history and overall credit score, especially if you have been using it for many years. In this blog, you will find out the impacts of credit card cancellation on your credit score and how to make decisions related to your credit card without harming your creditworthiness.

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How does Credit Score Work on a Credit Card?

You should first understand how credit score works on a credit card for managing your financial health efficiently. Five components determine your credit score:

  1. Payment History: When you pay your credit card bills timely, it boosts your credit score. Even if you miss a single payment, it significantly lowers your score. It is the key determiner in the credit scoring model.
  2. Credit Utilization: This refers to the percentage you use out of the credit limit you get. To maintain a good credit score, you should try to keep credit utilisation below 30%. Example: If you get a credit limit of ₹1,00,000 then, try not to keep more than 30% as an outstanding balance.
  3. Credit Age: The longer you keep your credit card open, the better your credit score. Closing your credit card shortens your credit history and reduces your credit score.
  4. Account Mix: A mixed credit profile, including credit cards and loans, strengthens your credit score. It provides lenders with the impression that you can efficiently maintain varied credit accounts. Credit cards contribute to creating a well-rounded credit profile.
  5. Hard Inquiries: When you apply for many credit cards within a short time, it leads to hard inquiries on your account and causes a temporary decline in your credit score.

To avoid negative impacts on credit scores due to credit cards, pay all bills on time, maintain a long credit history, and avoid applying for many cards.

For example, if you apply for a credit card and get a limit of ₹75,000. You use this credit card for your expenses but at the same time, maintain your credit utilisation ratio by spending not more than ₹20,000. You also ensure to pay off the credit card bill before the due date every month. All this depicts your responsible credit behaviour and strengthens your credit score.

On the other hand, if you start using more of your credit limit or opt for large EMIs, you will increase your credit utilisation, which will hurt your credit score.

How does Closing a Credit Card Affect Your Credit Score?

Credit card closing can immediately affect the credit score, as it significantly impacts key factors like credit utilisation and credit history.

  1. Reduced Credit Utilisation: When you close a credit card, total available credit limits drop, which in return can raise your credit utilisation ratio if there is an outstanding balance. For example, you have a total credit of ₹2,00,000 including all your cards, but if you close one of your cards with a credit limit ₹1,00,000, your available credit is cut in half. If your balance remains the same, your credit utilisation ratio will increase and will harm your credit score.
  2. Shortened Credit History: Another effect of closing a credit card is the decrease in the average age of your credit account. For instance, if you close a card that has been active for 12 years, then your average credit age will decrease. A long credit history of a person shows stability and reliability to the lender thus, a shorter history may lower your credit score.
  3. Loss of Positive Payment History: If you close a card that you have always paid on time, then you may lose a positive part of your credit history. While closed accounts in good standing remain on your report for up to 10 years, the immediate loss of a responsible account can affect your creditworthiness.

In conclusion, closing a credit card can negatively affect your credit score by increasing your credit utilisation ratio, shortening your credit history and possibly removing a positive repayment record. Consider these consequences carefully before closing a credit card.

When Should You Close Your Credit Card?

One of the important financial choices is to decide when to close a credit card. This decision should be made carefully. Here are a few scenarios in which credit card cancellation might be a practical option:

  1. High Annual Fees with No Benefits: If your credit card comes with excessive yearly charges and you don’t enjoy any rewards, perks, or features then it may be the time to close it. For instance, if you pay an annual fee of ₹5,000 for your credit card but don’t use it often, then it is a financial drain.
  2. No longer using the card or switching to better options: If you no longer use a credit card or you have found a card that better meets your needs such as better rewards, lower interest rates, etc. you might consider closing the card to reduce complexities in your finances.
  3. Security concerns with the card: If you suspect that your card has been compromised or you just don’t like the security associated with your card, then closing it can help you protect your financial information.

Consider the pros and cons of cancelling your credit card. If you have a long credit history or a high credit limit, consider that cancelling might impact your credit score. Make sure that closing is the best alternative for your short-term and long-term financial objectives.

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How to Close Your Credit Card Without Affecting Your Credit Score?

If you want to close your credit card and want it to not affect your credit score then you must follow the proper steps to minimise the negative impact. Here is the step-by-step guide:

  1. Pay off outstanding dues: Before cancelling your credit card, check that you have cleared all due amounts, including EMIs and pending charges. Cards with outstanding dues will lead to penalties which will diminish your credit score.
  2. Redeem rewards points: Many credit cards offer reward points which expire upon closure of the card account. Before proceeding with the credit card cancellation process, check all your accumulated points and redeem them for cash back, vouchers, or travel benefits.
  3. Notify the issuer and request closure in writing: Call your bank or customer service to request a credit card cancellation formally.  It’s best to make a written request or send an email for documentation purposes.
  4. Verify the account closure: Once your request has been processed, ask for a written confirmation that your card has been closed without any pending dues. Then, check your credit report to confirm that the account appears as “closed” rather than “defaulted” or “settled.”

It is advised not to close your older credit card as it contributes to the age of your credit history and also determines your credit score. Keep it open with minimal usage rather than closing it. By following these steps you can close your credit card without affecting your credit score.

Improving Your Credit Score with a Secured Credit Card

You can improve your credit score or minimal credit history by using a secured credit card. A secured credit card is a form of credit card that is covered by cash deposits from the cardholder. This cash deposit acts as the collateral and the credit limit for the card.

How it works?

The cardholder deposits a fixed amount of money (₹20,000) when applying for a secured credit card which becomes the limit for the credit card. After this, you can use the credit card for purchases like any other card. If the cardholders use the card responsibly and maintain a low utilisation ratio, they can improve their credit score and eventually apply for an unsecured credit card.

Secured Credit Card Benefits

  • Build Credit History: It is ideal for individuals using credit for the first time. Secured credit cards help to build credit history and boost credit scores.
  • Improves Credit Score: Regular timely payments help to boost or repair your credit score as repayments are the major factor for the credit score.
  • Reduces the chance of overspending: As your credit limit depends on your cash deposit, it lowers the risk of overspending.

A Smart Alternative to Credit Card Cancellation

Closing your credit card negatively impacts your credit score, so instead of closing a credit card, switch to a secured credit card. It allows you to maintain your credit history and improve your credit score with responsible usage. You can qualify for an unsecured credit card with better benefits by using the secured credit card wisely and rebuilding your credit score.

Conclusion

To make informed financial decisions, it is important to understand the impact of credit card cancellations on your credit score. Closing a credit card increases your credit utilisation ratio, shortens your credit history and impacts the overall credit profile. Consider alternatives such as a secured credit card or keeping the credit account open with minimal usage, before deciding to cancel the credit card. Make thoughtful decisions that align with your financial goals.

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