Vision Credit Education, Inc.

American Express has created a stir among cardholders with its newest offer. Select cardholders have been offered $300 as an incentive for them to pay off their balance in full and close the account. Tempting as it might be, there is potential for your credit to be affected in more than one way.

Why is American Express Trying to Close Accounts?

American Express is trying to limit its exposure to what could end up being record losses due to widespread credit defaults. Four states have already reported unemployment numbers above 10% and several others are knocking on the door.

Economists still expect things to get worse before they get better, with relief expected to come in late 2010 or even later. While some economists have called this the “Great Recession,” it might more appropriately be noted as a depression. We will not know until much later whether economic conditions will have officially deteriorated to the point that this economic cycle could be a depression.

While some card issuers have been reducing credit limits to reduce their exposure to potential losses, American Express has instead offered an incentive of $300 for certain accounts to be paid off and closed. While American Express is not disclosing how it determines which accounts it is selecting for the offer, there is some speculation that it could be tied to the little known “bankruptcy score” that is maintained by credit bureaus.

Recent Growth

American Express reported it had 65.4 million credit cards in use during 2004. By 2008, that number had jumped to 92.4 million accounts. While American Express was very successful at achieving rapid growth, it also may have overextended itself.

Some economists predicted an economic downturn, noting that a correction was needed in response to hyperactive housing markets and out-of-control mortgage lending. However, few could have anticipated that the economy would reach such disturbing levels.

American Express is making the offer at a time in which most other card issuers are also pulling back. Fortunately, American Express is providing an incentive and a choice for cardholders. Other card issuers have not been so generous.

Effects on Credit

If you take American Express up on their offer, there will be some impact on your credit score. Once the account is closed, it will benefit your credit history less and less as time goes on. The effects will be worse for someone who has held the account in good standing for many years. Accounts held less than 2 years would have little impact upon closing. The length of your account history is part of a 10% component of your credit score calculation which measures length of credit history.

Second, your credit score will benefit from having paid off the balance. If you paid cash to pay off the account, this will boost your score by reducing the total outstanding debt, which comprises 30% of your credit score.

If you transfer the balance to another credit card, then this will have very negative consequences. Not only will you take away the long account history that you have established by closing the account, you will also experience an increase in your credit utilization rate. This can cause your score to drop many points.

Should you Take the Offer?

There are several things to consider before deciding whether to take the offer. First, how will it affect your credit. If you have lots of outstanding debt, then the impact could be very negative. On the other hand, if this is your only balance and you pay if off with cash, it could benefit your credit.

Another consideration is your cash reserves and credit needs. Draining your savings and eliminating a line of credit could give you fewer financial options if your income situation takes a turn for the worst. Investment challenges and job losses are key events that could necessitate that you keep a buffer in your finances. Savings and credit are two key tools that allow you to maintain options.

Also, if you have come to depend on the rewards associated with the account, then you would lose those if you closed the account. In the end, consider your situation and do what will benefit you the most.