Avoiding a Credit Score Death Spiral

By now, news of credit card issuers cutting credit limits, hiking interest rates and closing inactive accounts is commonplace and has reached the mainstream.

An oft overlooked consequence of these actions by banks is that a consumer with a perfect payment history and who has managed their credit responsibly could still find their credit score plunge.

How your FICO score is affected
Consider this: According to Fair Isaac, creator of the FICO score, 30% of your score is attributed to the debts you owe, including the ratio of your balances to your total credit limits. If a bank shrinks your credit limit, your credit utilization ratio will increase, and consequently have an adverse effect on your credit score. Another 15% of your score considers the length of your credit history. When an issuer closes an inactive account, it also adversely affects your score, since having old, established credit lines helps your credit score.

Where the credit spiral comes into play
In theory, another issuer could notice that your score has dropped and decide to take adverse action against you as a result, causing your score to drop even further.

Steps to take
Are the credit reporting agencies accounting for these contingencies in their models? Is there anything you can do to avoid this happening to you? Unfortunately it seems mostly out of our hands, but here are a few ideas that could help:

  • Do not let any credit cards idle for too long. Issuers are now aggressively closing accounts that have been inactive for more than 12 months without warning.
  • Do not apply for a lot of new credit at once. The days of the traditional App-O-Rama are long gone. Applying for too much credit will set off alarms and provoke a chain of adverse action.
  • Charge less or pay down your balances. If your limits have been cut, one obvious way to improve your debt to credit ratio is to decrease your debt.
  • If a dormant account that has been closed is important to you, you can try to have the issuer re-open it. Call customer service, plead your case and escalate to a supervisor if necessary. If instead your credit limit has been cut, you can also ask for it to be reinstated, but that request is much less likely to be granted.

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  • North

    What American Express is doing to credit scores by cutting credit lines of good paying customers should be illegal. I personally have filed a complaint with Office of Thrift Supervision, Federal Trade Commission and I have written a letter to Senator Chris Dodd. If anyone has had their score impacted they should speak up that’s the only way to protect ourselves. The number of “bail out” packages won’t matter if the consumer cannot make purchases.

  • Mike

    The same thing happened to me with Citibank.They cut the credit limit of my Citibusiness card, which I’ve had for about 10 years, from $22,900 to $3500.I’ve never paid a bill late, bounced a check, or exceeded my credit limit in my life, not just with Citibank but with anyone.

    Of the blogs and forums which deal exclusively with credit cards, this is the best one on the ‘net.

  • I had a card with GM. They cut my limit from $5000 to $300!! A $300 limit credit card? Are you kidding me?

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