Close credit cards before applying for a mortgage?
By Eva Norlyk Smith Ph.D.
September 3, 2013
My husband and I are thinking of buying a home. We have multiple credit cards and three car payments. I am wondering if closing some of the zero-balance credit cards will negatively affect our credit scores. I have five cards and my husband has three. We've had them for four or five years, some longer. — Liz
While it may seem counterintuitive, having more credit cards can benefit your credit score, as long as you consistently pay on time and don't carry high balances. Closing cards, meanwhile, could possibly lower your score.
Let me tell you about Walter Cavanaugh, who made headlines several years ago for his immense credit card collection. Want to venture a guess how many active credit cards he had? More than likely, you won't even get close: As of 2005, he had 1,497 cards. And his credit score? Excellent. A former financial planner, Cavanaugh explained to the Los Angeles Times in 2004 that he kept most all of his credit cards stashed away and used only one, which he paid off in full each month.
I'm not recommending you get more credit cards than you can use. However, Cavanaugh's example does illustrate that the number of credit cards you have doesn't matter as much as how you use them. Because it sounds like you're not carrying a balance on at least some of your cards (and because you didn't mention any late payments or collection accounts), your credit card portfolio is probably boosting your credit.
When it comes to credit scores, there are two main issues with closing credit cards. First, it may shorten the length of your credit history, which makes up 15 percent of your FICO scores — particularly if you were to close some of the older credit cards. FICO factors in the length of your credit history because lenders want to see that you've had credit for a long time and used it responsibly. Accounts closed and paid as promised stay on your credit reports for 10 years. So those zero-balance cards you mentioned would stick around for a decade and continue to be factored into your score. After a decade, though, they'd disappear, leaving you with a truncated credit history and, possibly, a drop in your credit scores.
Secondly, closing a credit card could also affect your credit utilization ratio, which makes up 30 percent of your FICO scores. Credit utilization is a measure of how much debt you carry in relation to your credit line, and it is calculated both within each credit card and across all your credit cards. Let's say you had a total credit line of $20,000 and a credit card balance totaling $6,000 across all your credit cards. That's a 30 percent credit utilization ratio over all your accounts. Financial experts generally say that 30 percent is the highest you want to go, if you're trying to build or maintain a high credit score.
Now, if you were to close a credit card with a zero balance and a $5,000 credit line but keep the $6,000 balance, the credit utilization would jump to 40 percent. That could be enough to ding your credit scores.
So as you can see, the supposedly fiscally responsible act of closing a credit card might inadvertently lower your score and make you look like a less responsible borrower.
Credit scoring models are complex. The effects of closing a credit account vary from individual to individual, and they are hard to predict. For this reason, if you and your husband's credit scores are excellent, and you have no problem qualifying for a mortgage, you are better off just staying put.
Even so, there's still one snag that you could run into: A potential lender could consider the number of credit cards you have an issue. Banks don't like to end up in a position where they are competing with other lenders for debt payments. So having many cards — and the potential to get deep into debt — could be a turn-off to lenders.
Still, assuming you've been paying off all your cards on time, I'm going to recommend you keep them open. Credit considerations aside, buying a new house tends to carry with it all sorts of unexpected expenses. You might just find that some of those credit cards will come in handy for some much-needed short-term financing during the move into your new home.
Got a question for Eva? Send her an email.