How Paying Off a Loan Affects Your Credit

Your credit score is made up of a number of different things that are looked at to give you and lenders an idea of how healthy your credit is as a whole.

In some situations, your credit score can go down after you pay off a loan. This isn't because someone wants you to stay in debt, though.

Remember that credit scores are meant to predict risk, especially the risk that a person might not pay back a loan. Even though credit scoring models aren't perfect, they are still based on how people act.

When you pay back a loan, for example, the lender will close the account. Several things happen because of this:

Less weight is given to the account's payment history. If you've always paid your bills on time, that will show up on your credit report for 10 years. But when it comes to your credit score, making payments on time on open credit accounts has a bigger effect than making payments on time on a closed account.

You have less debt. The amount of debt you have is the second most important part of your FICO credit score, so paying down your debt can help your score in general.

The loan doesn't help your history anymore. Your credit history is how long your credit accounts have been open and how old your accounts are on average. When you pay off a loan, FICO will still count the account's age when it's closed, but it won't "age" like your other open accounts.

It doesn't give scoring models as much to work with. Your credit score shows how you've handled debt in the past and how you're handling it now. After a loan is paid off, there are no more data points from that account that can be used to calculate your credit score. FICO has said that having low balances on installment loans compared to their original amounts is less risky than not having any installment loans at all.

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