You are going through your credit cards and realize you have some you haven’t used in years. Or credit cards that used to be free now have a fee attached to them -- even if you don’t use them. Your first instinct may be to call the banks and cancel these cards. You might even think this is the smart thing to do because having less credit available to you may raise your credit score. Don’t, however, call the bank until you understand how those old credit cards affect your credit score.
Your Credit Score
Your credit score, according to myFico, is made up of five pieces: the amount you owe, your payment history, new credit, the length of your credit history and the types of credit you use. Because payment history contributes 35 percent to the value of your score, on-time payments are the most important factor to a good credit score. Your credit utilization ratio represents 30 percent of your score. Fifteen percent takes into account factors such as the length of your credit history.
Credit Utilization Ratio
Your credit utilization ratio is the amount of money you owe compared with how much credit you have available to you. For instance, if you have $25,000 available to you over one or several credit cards, and you owe a total of $12,500, your credit utilization ratio is 50 percent. You will have a better credit score with a lower credit utilization ratio because it shows you are not taking advantage of all your available credit. While Fair Isaac Corp., the company that provides the credit scores, does not share the fine points about how a score is calculated, the majority of opinion from Internet financial sites is that you should try to keep this ratio under 30 percent.
Effect of Change in Credit Utilization
Closing an old credit card account may have a negative effect on your credit score because you are lowering the total amount of credit you have available and, thereby, raising your credit utilization ratio. For example, if your credit balance is $5,000 on total available credit of $40,000, and you close a credit card with available credit of $10,000, your credit utilization ratio goes up from 12.5 percent to 16.7 percent.
Effect of Change in Length of Credit History
Because the length of your credit history is an important factor in calculating your credit score, having old credit cards -- even unused ones -- has a positive effect on your credit score. If you must cancel a credit card to reduce the temptation to overspend, cancel your newest card, as that will have the least effect on the length of your credit history.
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