Less Debt and Lower Interest Rates = Lower FICO Score????

[Anonymous]

Last January, my Score was around 750.  I have an excellent history of paying my bill on time for over 15 years.  I have a single late payment on my credit report, which I attribute to a mail delay or posting delay.  Last January, I decided decided to expedite paying off some credit cards.  I took out a loan from my credit union and used it to pay off an auto loan and some credit cards.  Then I closed the credit cards that I paid off.  I consolidated some other cards onto a card that had a lower rate.  

The overall effect is that I am paying my accounts off faster, with lower payments. You would think that would be a good thing. 

Boy was I wrong!!!!!

My debt is down.  My interest rates are down.  My credit score is down 100 points!!

Apparently, the FICO score is weighted to ensure that the banks make money because they can charge people with lower credit scores higher interest rates.   Hears how it goes:

Apparently, my score was docked because I had a credit inquirer during the last year,  Just one, to get the loan that I used to pay off credit cards. 

It was also docked because my ratio of debt was up compared to my combined credit limits.  This was because I closed some high interest credit cards.  I had no more debt, I had just eliminated some potential high interest debt.

Net result - my bank wants to raise the interest rate on my loan because my credit score is lower. 

Apparently, the algorithm used to calculate a FICO score is flawed, or simply designed to increase debt and interest rates.  I haven't decided which.

[GregB]

Both assumptions are incorrect.

You were penalized for inquiry, new account, and closing accounts. Interest rate is completely irrelevant to FICO scores. Paying off installment debt makes very little difference. A FICO score is basically a measure of the chance of you being late or defaulting on a new loan.

You could have lowered interest and improved your FICO score pretty easily but in the long run saving money on interest does help your financial situation.

[cdtotten]

By closing your credit cards, your reported utilization became much higher - utilization is a huge chunk of your credit score. In example..

Card A - 500 balance / 2000 limit

Card B - 500 balance / 2000 limit

Card C - 300/balance / 1000 limit

Card D - 500 balance / 5000 limit

In this situation, your credit utilization is 18% (1,800/10,000).

By closing out say the 3 lower limit cards and consolidating onto the big card, your new utilization is 36% (1,800/5,000), effectively doubling your utilization ratio, which in turn hurts your FICO score.

As previously mentioned, in addition to the new inquiry (maybe 3-5 points), you also opened a new account which dings you, and lowered your average age of accounts, which can ding you or completely rebucket you potentially.

You should check out the Closing Credit Cards sticky... it explains this very well. Closing a card without an annual fee is almost always a bad idea.