Should You Close Credit Cards After Consolidating Debt?

Many New Zealanders choose to consolidate their credit card debt with a personal loan or a balance transfer.

Consolidating the debt means the repayments may be simplified – there’s only one to think about, rather than the multiple payments you might have been juggling previously – and there might be lower interest costs, too.

Credit cards tend to have higher interest rates than personal loans vs credit cards, particularly if the personal loan is secured.

But many people wonder what to do next once the credit card debt has been cleared with a new loan. Should they close their existing credit cards, or leave them as they are?

Here, we will explain the impact on your credit score of closing your card, and how it can affect your financial well-being and your borrowing options as you weigh up the potential options.

Why Do People Consider Closing Credit Cards?

A big reason that lots of people close their credit cards when they have been consolidated is to remove temptation, or the risk of spending on the card again.

If the debt got out of hand in the first place, putting you in a place where you were struggling and needed a debt consolidation loan or other debt repayment strategy, you might want to remove the chance that it could happen again.

It may also make it simpler to have fewer accounts open to monitor and think about.

Some people think that closing the accounts might also improve their credit score.

How Credit Scores Work in New Zealand?

In New Zealand, there are three main credit reporting agencies – Centrix, Equifax and Illion.

They each monitor and report on the credit histories of every credit-active individual.

There are a few different factors that go into making up your credit score.

New Zealand has a comprehensive credit score in New Zealand reporting regime, which means that positive activity is recorded in your history as well as negative.

In practice, what this looks like is that any payments you make on time, whether it’s paying off a loan or just paying your power bill on or before the due date, can improve your credit score and reflect on your credit report.

But it’s not the whole story.

Another part of the picture is your credit utilisation ratio and your length of credit history.

The credit utilisation ratio refers to the amount of available credit you’ve used. If you have a credit card with an available balance of $10,000, for example, and you haven’t spent anything on the card, it lowers your credit utilisation ratio.

Having a longer credit history can also help to improve your score, as can the credit mix.

Having a few different types of credit can positively affect your credit record because it shows that you can manage different types of debt responsibly. Having credit that has been around for a while can also be a benefit.

Personal loan repayments are recorded as instalment credit in your history and don’t affect your utilisation, but can influence your credit mix. Credit card repayments affect your credit utilisation and are treated as revolving credit.

Pros of Closing Old Credit Cards After Consolidation

Here are some of the reasons that closing your credit card might make sense.

• Less temptation: Closing the card means you can’t decide to spend on it again, and now the balance is clear. You know you can focus on your existing debt without taking on more.

• Fewer fees: Most credit cards come with annual fees that you need to pay, whether the card is used and whether you owe any money or not. Closing the card will save you this fee.

• Simplicity: It’s often just easier to manage your financial life when you have fewer credit cards or other debts. You might want to just have the one repayment of your debt consolidation loan to think about.

• Peace of mind: Once you close credit cards, it’s like a line has been ruled under the experience, and you can move on.

Cons of Closing Old Credit Cards

But there are also some potential drawbacks and reasons why you might not choose to close your credit card accounts or store cards if you have consolidation loans.

• Credit utilisation ratio: If you close empty cards, it may mean that your credit utilisation score is higher on any remaining debt that you have. Because it’s calculated based on the balances available versus the amount used, closing a card with a zero balance can have a negative impact.

• Loss of positive repayment history: If you have a long history of making your credit card payments on time, you may lose this if you close the card. As long as you know you can use your credit card responsibly, this might be worth holding on to.

• Potential dip in credit score: There could be a short-term reduction in your credit score when you close a card, which may affect how you qualify for any applications you make for a new loan in the near term.

• Fewer available credit options: Sometimes, people like to have the option of knowing that the credit card is there if they need it. They might not plan to use it, but they like knowing that they have the option if there is an emergency, and they do not have to go through the process of applying for a new one.

Alternatives to Closing Your Credit Cards

In most cases, there are options if you want to keep your credit cards but don’t want to make purchases on them.

• Keep accounts open, but cut up or lock away the cards: Some people even put their credit cards in the freezer to reduce the temptation.

• Reduce credit limits: You might be able to ask your credit card issuer to reduce the amount that is available to you.

• Use cards sparingly and pay off balances in full to keep your credit history active: Paying off your balance in full each month means you aren’t charged interest.

• Switch to a no-fee card if you want to keep history without ongoing costs: Some credit cards offer a no-fee option. Generally, there aren’t any reward schemes or similar perks, but if you’re not planning to use the card anyway, that’s probably not an issue.

Best Practices for Kiwis After Consolidation

If you’re working towards financial freedom, trying to get out of debt faster, or just hoping to stay on track, there are a few things to keep in mind.

• Focus on consistent, on-time monthly repayments of your personal loan and all your debts. Keeping up with your obligations will help to build your credit score at the same time as it pays down what you owe. Ensure your payments are at a level you can afford and understand your loan terms so you know what fees might apply, for example, if you wanted to make an extra lump sum payment. If you have questions, the better finance™ team can help with this.

• Monitor your credit score through free NZ services. If you spot any errors, you can have them corrected.

• Review your budget to ensure old spending habits don’t creep back in. While it might be tempting to apply for new credit cards or hire purchases, try to carefully review your attitude towards spending and your financial behaviour to stay on track for your goals.

• Seek advice from financial advisers or budgeting services if discipline is a concern. Sorted and MoneyTalks both offer great resources for New Zealanders. They can offer you tools to get a great overview of what you have coming in each month in your income or pay, what your expenses are, what payments you have to cover and where your money is going.

FAQs

• Will closing credit cards improve my credit score in NZ?

  Probably not – but if it helps you to remain on track for your financial goals and not to get into problem debt, it could still be the right solution.

• How long should I keep old accounts open?

  If you’re worried about the impact, you could keep the account open while you build up your score and close it when you feel that a sufficient improvement has been made.

• What if I have multiple credit cards — should I close some but not all?

• That could be an option. It might be appropriate to seek advice from someone who can help you look at your overall financial picture.

Like to talk?

If you have questions about debt consolidation offers, interest charges or just how to manage a loan, get in touch with the team at better finance™. We’re personal finance experts who can help you look at your options and determine the right strategy for you.