If you’ve been paying attention to the last few posts, it’s been a debt-payoff/credit-score-boost focus. For those of you paying down debt, keep it up! For those of you paying down debt with the intention of making a new purchase afterwards, read below for the little-known reality that your credit score may actually take a hit at debt payoff (at first).
While you should pay off debt AND simultaneously boost your credit score, if you can, you may actually see A DROP in your credit score at actual payoff time.
Don’t panic, it’s all temporary.
And here’s why:
You may have reduced your Overall Credit Limit. If you paid a credit card balance down to zero and then closed that card, your overall available credit availability had decreased, which in turn increases your Credit Utilization Ratio (your amount of credit used vs how much is still untouched). This ratio is responsible for determining 30% of your Credit Score.
Solution? Unless the card has annual fees that outweigh it’s benefits, keep it open and use it every at least every 3 months.
This may be a great time to deploy the credit-score-building-hack of putting a “baby bill” (small subscription like streaming or gym membership) on this now paid to zero card, with automatic pay-off in full set-up. This way you’re keeping the account active and showing you can pay a balance to zero monthly. Win-Win!
Another reason your credit score might decrease at debt payoff is you may have lowered your Credit Age. Accounting for 15% of your Credit Score, Credit Age is based on how long you’ve held the accounts—the longer the better. If you pay down the debt on an account you’ve had for a long time and then close that account, you could see a drop in score if that was one of your oldest accounts. Again, think before closing out any account and if you’re not intending to use it regularly, keep it active once in awhile.
Hot Tip:
There is even a strategy to paying down debt while preserving your credit score called the Debt Landslide method in which you payoff your debt, most recent accounts first. Since credit scoring models give weight to recent activity (as a predictor of future behavior) this method has the greatest affect on credit score ratings of the various debt-payoff strategies (there are many—ask me which method might be right for you!)
Bottom Line:
Plan ahead! If you’re getting rid of debt to make a major purchase that will require a credit pull, give yourself a buffer between debt payoff and applying for any kind of loan. Most people see their scores recover in just a few months.
Unlocking Abundance 