Money

6 questions to ask yourself before you cancel a credit card

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It can be so tempting to want to jump on every enticing credit card offer that comes your way (hello, thousands of rewards points and cash-back deals!). But before you sign up, it's worth taking a minute to think about your long-term plans for that credit card and how cancelling a card later might impact your credit score.

In a 2019 Bankrate survey, 61% of American credit cardholders said they had cancelled at least one credit card, but just 42% knew that doing so typically hurts one's credit score.

"Knowledge is power," says Priya Malani, founding partner of Stash Wealth, a millennial-focused financial-planning firm. "Knowing that cancelling a credit card can hurt your credit score is important to understand so that you can make informed decisions and come up with a plan to rectify the damage in advance, rather than in a panic."

While Malani says that closing a credit card isn't always a bad thing, she adds that "it's nice to understand how your score will be impacted so you aren't caught off guard."

There can be a number of reasons why you might want to cancel a credit card. Maybe you're tired of paying a high annual fee or you want to limit your opportunities to overspend. But before you pick up the phone to make your breakup official, here are six questions you should ask yourself to make sure you don't damage your credit score.

1. Is the credit limit on this card helping my credit utilization ratio?

Your credit utilization ratio (CUR) is an important factor when determining your overall credit score.

It's calculated by taking the amount of credit you use and dividing it by the amount of credit you have available across all your cards. In general, experts recommend using 30% or less of the total credit you have available across all cards at any given time. So, if you have a $12,000 credit limit, you shouldn't spend more than $4,000 at a time.

"By closing a credit card account, the consumer is taking some of their available credit off the table." says Tommy Lee, a principal scientist at FICO. If your spending doesn't change, but you have less credit available, your credit score could take a hit because you're utilizing more of your available credit.

If you're unable to stay below the 30% benchmark, Malani suggests calling your credit card company and asking them to increase your spending limit.

If you go this route, she warns you to do so with caution. "A higher limit doesn't mean you should charge more on your card," Malani says. "Remember, never put something on your credit card that you can't pay for in full when the statement is due, or else you're using your credit card to live a lifestyle you can't afford."

2. When did I activate the credit card I'm considering closing?

Your credit history is another big piece of your credit score. It's the average amount of time that all of your credit cards have been active. In the eyes of lenders, a longer credit history is generally better because it proves financial responsibility overtime. That's one reason experts advise against closing credit cards, especially older ones, since doing so could shorten your average credit history.

Credit expert John Ulzheimer, formerly of FICO and Equifax, argues this line of thinking is a myth because your credit history is not immediately impacted when you close a credit card. It's the policy of the credit bureaus to leave any closed cards on your credit report for 10 years following termination. So long as they show up on the report, they are calculated into your average credit history age.

Even with the 10-year grace period, Ulzheimer says he would never recommend you close your oldest card because you always want the value of its age on your credit report. .

3. Is having access to high credit card limits tempting me to overspend?

For some people, credit cards with generous spending limits can serve up some serious temptation to overspend. However, unless your spending habits have become a real issue, before you cancel a credit card, consider other ways to manage how you're using the card.

"Closing a card simply because you don't trust yourself is not a good idea," Malani says. "As an adult, you're going to want a strong credit score and having a credit card (or two or three) open and in good standing is a great way to accomplish that."

Her advice? Instead of cancelling your card, remove it from your wallet and stick it in a drawer. That way, your card is out of sight, out of mind. It's also important to remove it from Apple Pay and any online retailers where you might have saved your info for easy purchases.

Ulzheimer argues that overspending is a legitimate cause for cancelling. "If you can't control your spending, then closing the card is a good idea," he says. "But, you should at least be cognizant that you could end up with a lower credit score as a result."

If you find yourself in a position where you need professional help fixing your spending habits, there are services available to you. Debtors Anonymous is a support program designed to help people stop incurring unsecured debt. To find out if it's for you, you can read about the 12-step program or visit the organization's website for free literature on the topic.

Another helpful resource is the Financial Counseling Association of America (FCAA), which is a national association representing credit counseling companies. It's a great starting place if you're in search of a credit counselor.

4. Is the card I'm considering closing a store credit card?

When it comes to store credit cards, Malani and her team at Stash Wealth advise that you avoid them altogether. "It all comes down to human psychology," Malani says.

Studies have shown that shoppers with store cards end up spending more at the store than they would if they did not have the store card. This, she says, happens when you feel like you are getting a deal, such as free shipping because you are a VIP member. You think you're saving money even though you are spending more.

"We almost never recommend opening up a store card unless you're making a major purchase, like buying a piece of furniture, in which case the upfront promo provides a significant monetary benefit," Malani says.

She adds that since store cards generally have low credit limits and higher than average interest rates, it's best to use the store card only to get the initial discount you're after and close it as soon as you pay it off.

5. Do I have too many open credit cards?

While there's no set number of how many credit cards is too many, it's less about the number of cards you have and more about how you manage them.

"In most credit score calculations, the largest component of your credit score has to do with accountability," Malani says. "So, make sure you pay your bills on time and in full."

If you feel your cards have gotten to be too much to manage, before closing them, consider coming up with a strategy for getting organized.

"Set reminders, set up autopay," Malani says. "Do whatever you need to do to demonstrate accountability."

6. Do I have a goal of increasing my credit score in the near future?

Given the many milestones that require you to have good credit, it's essential that you consider where you are at with your personal and financial goals before cancelling a credit card.

"If you have a good credit score and you're planning on applying for a mortgage, car lease or even renting an apartment, you wouldn't want to cancel a card because it will likely ding your score," Malani says.

If you are in a situation where you have already cancelled a credit card and your credit score suffered, or you want to raise your score in general, there are simple ways to go about it: paying your bills in full and on time, maintaining a CUR of less than 30% and regularly reviewing your credit report for errors.

While Ulzheimer says there is "no blanket advice for everyone," it's important to keep these general best practices in mind if you want your score to improve. He adds that "it will take some time for your score to recover," which means patience and consistency are key when working to raise your score.

"If your scores are lower because of credit card debt then you're going to have to work to pay it off," Ulzheimer says. "And certainly your scores can be low because of a combination of things, like missing payments and having too much credit card debt. Those are the hardest to raise because you really have to change everything about how you manage your credit."

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