What Happens if You Close a Credit Card?

One of the repeated cri-de-coeurs about the various changes banks have been making in their credit cards is that they have a negative impact on credit scores.  Slashing limits means that your balances are now a higher percentage of your overall credit, which hurts your score.  So does closing one of your older accounts.

Felix Salmon argues that the hysteria is not warranted; if your credit card slaps you with a hefty annual fee, close the damn card and don't worry about your FICO score, which won't be affected that much:

In other words, if closing one card means that you're much closer to maxing out your remaining cards, then your score might lose some points -- but it's very unlikely to go down by a quantum as huge as 100 points. Your credit utilization ratio is part of your FICO score, yes, but it's not that big a part.

He bases this on a statement from the nice chaps at FICO, which is not quite accurate, as far as I know:  a bigger problem with closing accounts is that it can change the overall age of your credit history, which accounts for about 15% of your score.  The longer you've had credit, the better your score.  It's absolutely true that credit utilization is an even bigger piece--but if you're the sort of person who's getting slapped with an annual fee for refusing to carry a balance, that's probably not your major concern.  

You also have to remember that there are threshold effects:  if your score is 780, losing 50 points doesn't matter.  But if it's 720 or 670, it could be very costly, because it will push your score below one of the thresholds used to set loan rates.

That said, if you're that worried about your FICO score, and you aren't shopping for a house RIGHT NOW, you have too much debt.  Most people should be able to go for years without caring what their FICO score is.  If your outstanding credit card balances are high enough that a decline in your credit score can trigger a disastrous cascade of interest rate increases and slashed credit lines, you need to focus on paying those down as quickly as possible.  Obviously, there are circumstances where this isn't possible, like long-term unemployment.  But if you're close enough to the edge of this sort of disaster, a credit card annual fee is the least of your problems.

But even if you don't need to borrow a lot of money in the imminent future, shouldn't you worry about what landlords or employers will think?  As far as I know, those people are generally interested in looking at your credit report, not your credit score.  Landlords want to know if you've been sued by a landlord; employers want to know if you have a spotty history of meeting your obligations, or a large debt load which might tempt you to dip into the till.  They aren't wondering about the average age of your credit lines, or whether your $1500 credit card balance is 15% or 85% of your credit limits.

America's obsession with its FICO scores is broadly symptomatic of an unhealthy attitude towards debt.  We'd all be a lot better off if we stopped freaking out every time the sacred FICO score drops a few points.