Credit Card Impacts to FICO® Scores

Should I take advantage of promotional credit card offers?

Generally, opening new accounts can indicate increased risk and can hurt your FICO® Scores. Every individual’s situation is unique, but in general consumers with a moderate number of revolving accounts on their credit reports generally represent lower risk than consumers with either a relatively large number or a very limited number of revolving accounts. However, please keep in mind that opening a new account, and to a lesser extent the resulting credit inquiry, may demonstrate higher risk in the short term.

Will closing a credit card account impact a FICO® Score?

Yes, but not in the way you might expect. And, while closing an account may be a good strategy for responsible financial health management in some cases, it also may have a negative impact on your FICO® Scores.

FICO® Scores take into consideration something called a “credit utilization ratio”. This ratio or proportion basically looks at your total used credit in relation to your total available credit; the higher this ratio is, the more it can negatively affect your FICO® Scores. This is because, in general, people with higher credit utilization ratios are more likely to default on loans. So, by closing an old or unused card, you are essentially wiping away some of your available credit and thereby increasing your credit utilization ratio.

It’s a bit tricky, so here’s an example:

Say you have three credit cards.

  • Credit card 1 has a $500 balance and a $2,000 credit limit.
  • Credit card 2 is an unused card with a zero balance and a $3,000 limit.
  • Credit card 3 has a $1,500 balance and a $1,500 limit.

In this scenario your credit utilization ratio looks like this:
Total balances = $2,000 ($500 + $0 + $1,500)
Total available credit = $6,500 ($2,000 + $3,000 + $1,500)
Credit utilization ratio = 30% (2,000 divided by 6,500)
Now, if you decide to close credit card 2 because it’s an old card that you never use, your credit utilization ratio looks like this:
Total balances = $2,000 ($500 + $1,500)
Total available credit = $3,500 ($2,000 + $1,500)
Credit utilization ratio = 57% (2,000 divided by 3,500)
You can see that your utilization ratio rose from 30% to 57% by closing the unused credit card.

What’s the best way to manage my growing credit card debt?

 

There are a number of different things to consider when managing credit card debt. We’ll touch on a few of the key things of which to be aware.

The advantage of having more than one credit card

People who only have one credit card available and are coming close to maxing out that card, might consider applying for another card in terms of how it affects their FICO® Scores. It has to do with what’s called credit utilization.

Utilization measures how much of your credit you are using in relation to your total available credit. If you have one credit card with $500 charged to it and a credit limit of $1,000, then your utilization is 50%. There’s no ideal utilization to shoot for, because as with most things, it depends on everything else on your file. But in terms of the risk of hurting FICO® Scores, people who keep their utilization on any one card below 50% will see less negative impact to their FICO® Scores. Research has shown that people who max out a single credit card are more likely to miss future payments, and therefore FICO® Scores consider people using more of their available credit as more risky than people who are using very little of their available credit.

Disadvantages of having a large number of credit cards

Consumers with a moderate number of revolving accounts on their credit report generally represent lower risk than consumers with either a relatively large number or a very limited number of revolving accounts.

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