Having a credit card makes your life incredibly easier. It’s highly convenient and is a great way to go cashless. Instead of carrying wads of cash in your wallet, you can swipe the card to pay for all your purchases. Besides shopping at brick and mortar stores, credit cards can also be used for online transactions.
The biggest benefit of using a credit card is that you can shop now and pay for your purchases later. It's like having a personal credit line that you can dip into any time. Another huge perk of using a credit card is that you can enjoy reward points for your shopping, which you can redeem later on for cashback offers and other gifts. Regular usage of credit cards can help you establish and build your personal credit score.
While credit cards offer an array of benefits, having more cards than you need and improper management of the various cards can severely impact your financial health. If you're having a hard time tracking and managing your credit card debts, then the best way moving forward is to close a few that you no longer use.
Before you decide to close an existing card, you need to be aware of the pros and cons of closing credit cards.
Pros: Protects you from Incurring Potential Debts
One of the biggest traps of using credit cards is that you can build large debts mindlessly. Having multiple credit cards tempts you to overshoot your shopping budget. As a result, you end up acquiring a massive debt from numerous credit card purchases.
If you're finding it challenging to repay your credit card debts, you can close a few cards and maintain only ones that help you build a good credit history. To close a credit card account, reach out to the card issuer. You can find the customer service number printed on the bottom of the card, or look it up online. Place a request to close the card. You will have to repay all balances accrued on the card before you can close it.
Closing multiple cards and using only one or two helps you get back on track and lead a debt-free life.
Pros: Prevents Identity Theft
You may have multiple credit cards in your wallet that you no longer use. That doesn't mean hackers cannot access it. Even though the chances are slim, hackers can steal your card info and use it illegally. To avoid falling victim to credit card identity theft, you can close cards that you don't track regularly.
Pros: Reduces your Overall Debt
When you have multiple credit cards open, it increases the total debt value on your portfolio. This, in turn, increases your debt-to-income ratio (DTI). DTI is the total debt that you owe calculated against your income. Higher the DTI value, it becomes more difficult for you to qualify for loans in the future.
Closing a couple of credit cards that you don't use frequently can reduce the overall debt burden on your income, thereby reducing the DTI. This, in turn, improves your chances of securing a loan.
Pros: Helps you Avoid Extra Expenditures
One of the significant reasons many people close a credit card account is to reduce temptation. Very often, having a credit card tempts people to splurge on luxury purchases that they wouldn't usually do. When you close a credit card, you cannot spend on it, thereby avoiding unnecessary expenditures.
Cons: Reduces your Credit Timeline Exposure
While calculating your credit score, credit bureaus consider the length of your credit history. By closing a credit card that you own for a long time, you're shortening your credit history. This impacts your credit score, causing it to drop.
Myth: Closing a credit card erases the associated late payments from your credit history.
Very often, card users falsely assume that by closing a card with late payments, it automatically erases the late payments record associated with the card. No! Even when you close a card, the late/missed payments are still factored into your credit score calculation.
Cons: Reduces Available Credit Limit
When you close a credit card, you miss out on the rewards, loyalty points, and other perks you usually earn on the card. Besides losing these perks, your overall credit limit is also reduced.
Let's explain this with an example. Say Person A has three credit cards with credit limits of Rs. 40,000; Rs. 20,000, and Rs. 30,000 respectively. He decides to close the last two cards. Due to this move, his overall credit limit is reduced from Rs.90,000 to Rs. 40,000 monthly. This can impact his overall budget and monthly expenditures.
Cons: Leads to a Drop in your Credit Score
Closing a credit card may help you reduce your debt in the long run, but it takes a hit on your credit score in the short term. Your credit history and overall credit limit play a crucial role in deciding your credit score. When you shut down a couple of credit cards, it reduces your total credit limit, increasing your credit utilisation ratio. With a high credit utilisation ratio, your credit score drops.
The alternative is to keep your cards open but maintain it at zero outstanding balance. This way, you have a larger credit limit and lower credit utilisation ratio, helping you build a high credit score.
EndNote
Whether you're closing a credit card to cut back on your expenses or to manage your card debt, the decision should be taken only after a careful analysis of your financial situation.
For instance, if you close a credit card that you have for ten years after paying all the balances on it, it erases 10 years from your credit history timeline. This has a significant impact on your credit history and credit scores.
So, instead of closing a card, repay all outstanding balances on it, and keep it open without using it. This way, the card stays on your credit history and acts as proof of how you can handle credit efficiently. This helps you build your credit profile and score.
Closing a credit card may give you peace of mind, but it can hurt your credit score. So, make sure to weigh the pros and cons before closing a card. If you decide to close a couple of cards, close the recently opened ones so that you don't erase a significant chunk of your credit history.