Overall, paying off debt is good for your credit score. However, it’s possible that you’ll see a drop in your credit score immediately after you pay the full balance on one of your accounts.
If this has happened to you, rest assured that the drop is temporary and that the benefits of paying off your debt outweigh the drawbacks of a temporarily lower score.
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Reasons why your credit score dropped after paying off a debt
Paying off your debt can affect several of the factors that contribute to your credit score.
In detail, here are a few reasons why paying off your debt might have hurt your score:
1. Your credit utilization rate increased
In the process of paying off your debts, you may have closed a credit card (or some other type of revolving account), which can hurt your credit score. That’s because when you close a credit card, you increase your debt-to-credit ratio (aka your credit utilization rate) as a result of decreasing your credit limit.
In layman’s terms, that means you’re using up more of your credit limit than you were before. And when you use more of your credit, you look riskier to lenders.
To protect your credit score, avoid closing any of your credit cards unless they have high annual fees that make them unaffordable.
Can paying off an installment loan hurt your credit?
To a lesser extent, paying off an installment loan (like an auto loan or mortgage) can also lower your credit score, as some scoring models reward you for having an active loan that’s mostly paid off (e.g., if you have just $500 left to pay on a $1,000 loan).
However, most installment loans have a fixed payment schedule, so unlike with revolving credit accounts, keeping them open for the sake of your score isn’t a practical option.
2. You now have less diversified credit accounts
Generally speaking, the credit scoring models favor consumers with a diverse mix of different types of accounts, such as:
- Revolving credit accounts (e.g., credit cards)
- Other installment loans
This means that if you recently paid off your only revolving credit account or installment loan, it might have damaged your score. Fortunately, credit mix has a fairly modest impact on your credit score, so the damage won’t be severe.
3. Your credit score dropped for an unrelated reason
There’s a chance that the dip you’re seeing in your credit score is unrelated to you recently paying off a debt.
Here are some common causes for a drop in your credit score:
- You recently made a late payment on another credit account
- You applied for a new credit account
- You’ve started spending more on your credit cards
- Your credit card issuer lowered your credit limit (increasing your credit utilization rate)
- You have an error on your credit report
Checking your credit report for errors
If your credit score recently dropped and you’re not sure why, check your credit report for inaccurate information. You can get a free copy of your credit report from the three main credit bureaus (Experian, Equifax, and TransUnion) at AnnualCreditReport.com.
If you spot an error on your credit report, dispute the item right away by using a dispute letter template and sending it to the relevant credit bureau and creditor that reported the inaccurate information.
How much your credit score could drop after you pay off your debt
The impact of any credit action depends on your personal credit history. The following factors will determine the exact number of points your credit score might drop by after you pay off a debt:
- When you made the payment
- Whether or not you closed the account
- How old the account is
- How diverse your credit mix is
Regardless of how much your score changes, bear in mind that the effect is temporary. It also might not be reflected at all across every credit scoring model.
How long does it take for your credit score to update?
It typically takes 30–45 days for your credit score to reflect your debt repayment. 1 That’s because this is roughly how often lenders and creditors report account information to the credit bureaus.
The exact timeline depends on your billing cycle and when your lender reports to the credit bureaus.
4 ways to increase your credit score after paying off your debt
To have a good credit score, you need to carefully manage your credit accounts.
Here are four ways to minimize the impact that paying off your debt will have on your credit score:
1. Don’t close your credit account
If you’ve managed to successfully get out of credit card debt and your credit card account is still open, then think twice before closing it. For the reasons mentioned above, closing the account might do your credit more harm than good.
With that said, it may be worth closing the account if you have high annual fees or you can’t resist the temptation to overspend. Moreover, in some cases, having too many of one type of account can bring down your score. 2
If you do decide to close the account, minimize the negative impact it’ll have on your finances by doing it when you’re not planning on applying for a new loan or credit card in the near future.
2. Limit how much credit you’re using
As mentioned, keeping your credit utilization rate low (ideally below 10%), both on individual revolving credit accounts and across all of your accounts, is a good way of improving your credit score. Doing so helps you keep your finances in check and allows you to take advantage of all the benefits of good credit.
If you’re already limiting your spending, you can also ask your credit card issuer to raise your credit limit. Requesting a credit increase won’t hurt your credit score (unless it triggers a hard inquiry), and getting approved for a higher credit limit can boost your score by lowering your credit utilization rate.
3. Continue to make on-time payments on your other accounts
Payment history is the most important factor contributing to your credit score, so ensuring that you consistently pay all of your bills on time is the best thing you can do to maintain a good credit rating.
To avoid missing any due dates, you can set up reminders or enroll in automatic payments. Moreover, if you’re a few days late on a payment, don’t skip it altogether. Your creditor won’t report the late payment until 30 days have passed, so you may have time to prevent it from ever affecting your credit. 3