Your Credit to Debt Ratio

The relationship between closing credit card accounts and your FICO score.

Understanding the Credit to Debt Ratio can help you increase your credit score. You need to know what happens when closing credit card accounts and how that affects your FICO score as an important part of getting out of debt and improving your credit rating.
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Consider debt consolidation credit counseling to pay off those credit cards. One payment, usually a lot lower than your credit card payments, can help you get back on track.
One of the biggest fallacies I've seen perpetrated on the web, at the bank, etc., is that you should close credit card accounts that you are no longer using to improve your FICO score.

When you close the account, your "history" is gone for that credit card ... yes, it still shows in your Credit Report; but the previous good history you had is not available and therefore can't be used to help calculate your FICO score.

Your credit to debt ratio is reflected in your FICO score. You can calculate your credit to debt ratio like this:

Credit to debt ratio example

Banks and other financial institutions place a lot of emphasis on your credit history (obtained from you and your credit report) and on your FICO score. Based on this available information; they can easily calculate what your debt to credit ratio is to see just how close to being in financial trouble you are. The closer you are to being over your head in debt, the higher the interest rate you will pay, if you get the loan at all!

The debt to credit ratio is used in the calculation of your FICO score as well; so the higher your debt load to the available credit you have to draw on, the lower your FICO score can be. If you can keep your debt load (the debt part of the debt/credit ratio) under the 50% mark, the better off you will be in the long run; and below 35% (what banks want to see) is even better!

In summary, if you consider the above, you can see why it wouldn't be a good idea to close a paid off account:

  1. it also closes the good history on the account
  2. it reduces the available credit and increases the debt ratio

What you want to also consider is how you will handle the paid off account. If you can have it and not use it; then do so, providing you aren't paying outrageous annual fees to have the card sitting in your wallet or at home.

Once you have paid off several accounts, then you can review your financial situation and decide if closing one account would be a good idea; after all, you don't want a lot of unused credit either as it can impact your ability to borrow for a home or car loan; and it's harder to keep track of multiple cards/accounts as well.

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Understanding the Credit to Debt Ratio.