How does closing an old credit account affect your credit score?

Closing out old accounts of credit is a serious decision when it comes to your credit score, one that most people are unaware of. With so many Indian consumers looking for ways to mend their credit well-being, it is important to look at the effect closing out old accounts has.

This particular write-up is dedicated towards explaining as to why closing old accounts can hurt more than you can think:

The effect on credit history

When you shut down an old credit card or a personal loan you are shutting down the history of consistent repayment on your credit profile. This is one of the biggest factors used to calculate your credit score. The more history you have on your credit i.e., of consistent repayments, the better your credit profile image is to lenders.

It is a clear sign of your creditworthiness. Now, recent studies have proved that it will get you a good credit score if you keep your old accounts as they will be very useful in the management of your overall credit report.

Impact on credit utilisation ratio

Another profound impact of account closure takes place on your credit utilisation ratio. Your combined credit card balances to your combined available credit, this is the most significant ratio in keeping your score in top health. Through account closure, your combined available credit goes down, which may push your utilisation ratio up if your spending habits fail to make up for it.

Experts recommend keeping this ratio at or less than 30% for good credit health. This means if you have a credit limit of ₹1 lakh then your credit utilisation ratio should not exceed ₹30,000. This is important to show that you are not overly dependent on credit for surviving. It will help you with easier terms on any future credit you take and will also help in proper management of personal loan EMIs as it will bring discipline in your financial management.

Closing of accounts also results in temporary reduction in score

You should be aware that closing an account may result in a temporary decrease in your credit score. This is because the average age of your accounts will be reduced and your utilisation ratio may rise. Even if the account was good, closing it may indicate higher risk for lenders, a poorer credit history, especially if you opened several new accounts in the recent past.

That is why to keep things simple it is important to remember that firstly you need to maintain a healthy credit repayment history. Secondly, you need to ensure that you maintain financial discipline by managing your credit utilisation ratio to less than 30% preferably. These simple ideas will also prevent any hard inquiries on your credit profile.

How to strategically manage your credit account?

While it is quite right to close an account on several occasions, such as due to excessive fees or poor service, the secret is to carefully focus on good credit account management.

Now, if a situation arises where closure is unavoidable, closing newer accounts is perhaps an optimal tactic rather than closing the oldest accounts, in a way this can help in reducing the damaging impact on your credit score.

Therefore, to conclude you must balance your overall financial position and long-term implications on your credit scores even before you consider closing any of your currently operational credit accounts. With the Reserve Bank of India's new guidelines requiring more frequent credit report updates from January 2025, a good credit history will be more important than ever to get good loan terms in the future.