Your wallet may be brimming with credit cards — some of which you don’t even use anymore. In the interest of streamlining your financial portfolio and taking the padding out of your back pocket, you might be tempted to cancel a credit card or two. Sounds reasonable enough, right?
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But think carefully before you do. Here are a few not-so-obvious reasons why it may be a better idea to hang onto those credit cards instead of canceling them.
Reason No. 1: Maintaining a good credit utilization rate
It might not be completely intuitive, but when you cancel a credit card, it could negatively impact your credit score. The reason has to do with the component of your credit score (and it’s a big one) called your credit utilization rate.
Your credit utilization rate is your amount of debt compared to the amount of credit available to you. For example, if you have $10,000 worth of debt and a $50,000 credit line across five credit cards, you have a 20 percent utilization rate — not too shabby. But cancel two of the cards and their $20,000 credit line, and your rate climbs over 30 percent. That could possibly impact your score — and by extension, limit your purchasing power in the future.
Reason No. 2: Preserving the age of your longstanding accounts
When the credit bureaus and prospective lenders look at your credit score, they also factor in how long each of your accounts has been open and in good standing. 1
Though the age of your accounts doesn’t factor into your credit score as much as the credit utilization rate, if you cancel some of your longstanding accounts, you may wipe out a component of the good creditworthiness you have built up over the years.
Reason No. 3: Achieving an ideal credit mix
Another smaller, but still significant aspect of your credit score is your credit mix, or all the different types of credit you have available to you. For example, an average person might have a mortgage, an auto loan as well as credit cards.
Lenders like to see a good diversity in types of loans in your portfolio to ensure that you are creditworthy. 2 However, if you cancel a disproportionate number of your credit cards, it might negatively impact your score by affecting your credit mix.
Reason No. 4: Preparing for a rainy day
No one likes to think about the negative, but the fact is that cars break down, people lose jobs and medical emergencies happen every day. Financial hardship can hit without warning.
Though it’s wise to have an emergency savings account on hand for these kinds of crises, credit cards can play an important role, as well. Holding on to one or two “rainy day” cards in case of an emergency is a great use for cards you may no longer be actively using on a daily basis.
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If you do choose to cancel
Of course, you will occasionally need to cancel a credit card. The important thing is to make the decision carefully — don’t cancel cards indiscriminately. Use the factors outlined in this article to help you make your decision. Consider which cards have the best terms, the right credit lines for your credit utilization rate and are issued by companies with which you have long relationships. And you may not want to close a credit card account before applying for big loans, as you will want to maintain as stable a credit report as possible prior to those events.