Whenever you own several credit cards, it becomes normal for you to go for weeks or even months without using one of the cards. At first, this may seem harmless, thanks to the fact that you have other cards to use. However, it’s not always the case because you run the risk of account closure by your card issuer. Most companies shut down credit card accounts mainly due to prolonged instances of inactivity, among other reasons.
When such a thing happens to your account, your credit score will likely take a massive negative hit.
Why Your Inactive Account Get Closed by Credit Companies
There are two ways in which banks make money from credit cards. From the interest levied on customers who pay their monthly charges late and from the interchange fees. Interchange fees are the payment made to the bank by your every time you use your card to make a purchase. This fee is so profitable that the bank can manage all customer accounts and offer rewards for every credit card purchase.
Inactive credit card accounts pose a loss risk to the lending companies as inactive accounts bring in no cash, which can end up costing the bank a lot per year in compliance. Since the use of the credit card and the bank’s profit bottom lines are tied, the bank’s management may decide whether to extend that line of credit to an active user who would rake in the profits.
Also, with inactive accounts possess another threat to the card issuers as the owner is unreliable. They might choose to go on a shopping spree with their available limit then disappear without paying. That explains why banks reduce the credit limits of most inactive accounts gradually before closing them. Other companies close them outright with or without notice.
Are The Credit Companies Within Their Rights to Close Accounts like that?
Yes, they are. If your account stays inactive for 12 months(Standard for most companies), the issuer is within their rights to close the account and offer that line of credit to another customer. Besides, some lenders give a 30-day notice before closure. Others do not.
Effects of Account Closure on Your Credit Scores
If your bank closes your credit account due to inactivity, there is every chance that your credit score will go down- especially if the closed account is for one of your older credit cards or if the closed account still has unpaid balances
Closure of a credit account affects three major sections that determine your credit score. These include your credit utilization ratio, your credit history length, and your credit mix.
- Impact On Your Credit Utilisation Ratio
Closing a credit card account can have a negative impact on your credit score. This portion accounts for at least thirty percent of your credit score. If you have two or more credit accounts, closing one line of credit will reduce your available credit limit. So, if you have a balance on any of the other credit cards, your credit utilization ratio will increase.
Let’s say you have $5,000 of credit card debt and a total of $20,000 in credit limits across all your credit accounts. Your credit utilization ratio would be at 25%. However, if a card that had a $0 balance and a credit limit of $8,000 were closed because of inactivity, you would now have $5,000 of debt, $12,000 in total credit limits an increased ratio of almost 42%, which would hurt your credit score.
- Effect On Your Credit Length
The shut down of an inactive credit account can hurt your credit length history (15% of your credit score). It happens if it is one of your oldest cards-because the average age of your accounts will reduce, thus lowering your credit score.
- Impact On Your Credit Mix
Lastly, closing an inactive credit card account could also hurt your credit mix. It’s the portion of your credit score that comprises of the utilization ratio and credit history length.
For instance, If you only have one and that card gets closed, your open revolving accounts would be zero-which may negatively impact your credit mix, which accounts for at least 10% of your FICO score.
So, keep your credit accounts active to avoid the inconveniences of closure.
Action to Take to Avoid Cancellation and Effects To Your Credit Score
- Keep Your Accounts Active
The fundamental piece of advice given to consumers is to build and protect your credit score, keep your oldest credit card account open. Keeping your oldest account will help you in two ways:
First, your FICO score will be high. FICO, the analytics software company, includes a consumer’s credit history length in their credit scoring process. With a more extended credit history, you will look dependable to creditors. However, this is only if you regularly pay off your credit card debts.
Also, part of your credit score hinges on your credit utilization, i.e., the percentage of your available credit limit you’re using. So, the lower the percentage, the better your credit score will be.
If you receive an account termination notice from your bank before the cancellation (for a card you want to keep open), quickly get in touch with the bank to get them to rethink the closure. It may work to your advantage if you act quickly. Otherwise, stay a step ahead. Use your credit cards regularly and pay off the debt systematically. You should try to keep your credit card account open to avoid a flop on your credit score. You can do this by:
- Setting up automatic subscriptions on your credit cards. These could include subscriptions for your monthly Netflix membership fee, Spotify, or even Disney subscriptions.
- Putting reminders on your calendar to avoid missing payments or schedule automatic payments to avoid interest fees while keeping your card active.