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Paying off a loan can be a big relief—but if you monitor your credit scores, you might be surprised to find your scores don't improve. In some cases, they may even drop a little. It can be counterintuitive, as successfully paying off a loan and having fewer bills is good for your personal finances. So what's going on?
Paying Off a Loan May Lead to a Temporary Score Drop
For some people, paying off a loan might increase their scores or have no effect at all. It all depends on your overall credit profile and the type of credit score you're checking.
Here are a few reasons why your score might drop when you pay off a loan:
- It was your only installment account: Having a mix of revolving accounts (like credit cards) and installment accounts (such as loans) is generally good for your credit scores. If the loan you paid off was your only installment account, you might lose some points because you no longer have a mix of different types of open accounts.
- It was your only account with a low balance: The balances on your open accounts can also impact your credit scores. If the loan you paid off was the only account with a low balance, and now all your active accounts have a high balance compared with the account's credit limit or original loan amount, that might also lead to a score drop.
- Your scores dropped for a different reason: Many factors impact your credit scores, and the drop might be a complete coincidence. For example, if you recently applied for a loan or credit card (even if you didn't get approved) or your credit card balance increased (even if you paid your bill in full), that could lead to a temporary score drop.
In general, paying off a loan won't have much of an impact one way or the other, and if your score does drop, the change will likely be temporary. But the presence of the account on your credit reports can continue to impact your scores for years to come.
Paid-Off Loans Can Still Affect Your Credit
One common credit scoring myth is that once an account is closed, it won't impact your credit scores. That's not necessarily the case.
If you paid off your loan and the account was in good standing, meaning you always made your payments on time, then the positive account history could continue to positively impact your scores.
On the other hand, if you missed payments before you paid off the loan, those previously missed payments can continue to hurt your credit scores.
Regardless of the account's payment history, it will continue to contribute to your mix of accounts, overall number of accounts (the "thickness" of your credit profile) and the age of your credit history. These can all be positive factors.
Positive Accounts Stay on Credit Reports Longer Than Negative Accounts
Your closed account won't remain on your credit reports forever. If you repaid the loan in full and never missed a payment, the credit bureaus will keep the account on your credit report for up to 10 years after the account is closed.
However, most negative marks must be removed from your credit reports after seven years (though some bankruptcies can remain for up to 10 years). Negative marks include late payments, a defaulted account or an account in collections.
The seven-year clock starts when you first fall behind on your bill, or the "date of first delinquency." If you don't pay your past due amount, a new negative mark gets added to your account each month to indicate how far behind you've fallen. If you never bring the account current, the creditor may eventually charge off your account and send it to collections.
When the late payments lead to your account being closed, or if you pay off a loan that was already delinquent and closed, then the entire account will be deleted seven years after the date of first delinquency.
If you were late with a few payments, caught up and then paid off the loan at a later point, the account may remain on your credit reports for 10 years after it's closed. However, the late payments still get removed after seven years.
Learn More About Credit Scoring Factors
Because paying off a loan often only has a minor impact on your credit scores, it generally makes more sense to focus on the major scoring factors:
- Payment history is the biggest factor making up your credit scores, which is why it's especially important to make on-time payments if you're paying down other loans or using credit cards. Even on-time payments on non-credit accounts, such as your utilities and phone, can help improve your scores if you sign up for Experian Boost™†.
- The balance on your revolving credit accounts, such as credit cards, is also an important factor. Keeping balances low relative to your credit limits (also known as a low credit utilization rate) can significantly help your scores.
Other factors can also be important, such as the length of your credit history, your experience with different types of accounts and your recent credit usage.
Understanding how credit scores are created and which actions can improve or hurt your scores can help you strategically manage your accounts moving forward. For more information, see "What Affects Your Credit Scores?"
Scores Aside, Paying Off Debt Is Good
Whether your credit scores rise, drop or stay the same when you pay off a loan, you should still celebrate the fact that you have one fewer debt to repay. You can now use the extra money to pay down other debts or save it for one of your financial goals. Or, if you've got your financial bases covered, you'll now have extra money in your monthly budget to spend as you please.
Editorial Disclaimer: Opinions expressed here are author's alone, not those of any bank, credit card issuer or other company, and have not been reviewed, approved or otherwise endorsed by any of these entities. All information, including rates and fees, are accurate as of the date of publication.
This article was originally published on May 11, 2019, and has been updated.