What Is a Credit Check?

Loan officer reviewing a credit report with an applicant
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DEFINITION

A lender, bank, or service provider performs a credit check when it needs to check your financial history. It grants access to information about your existing and past credit, payment habits, and the types of loans you have so it can assess your risk level as a borrower.

A lender, bank, or service provider performs a credit check when it needs to check your financial history. It grants access to information about your existing and past credit, payment habits, and the types of loans you have so it can assess your risk level as a borrower.

A prospective lender is likely to run a credit check on you if you're applying for a loan. It will look at your credit history by reviewing one or more of your credit reports maintained by the three major credit bureaus. The reports provide an indicator of how you handle credit and how much room you have to take on more.

Definition and Example of a Credit Check

You'll grant the lender permission to check your credit somewhere in the application when you apply for a significant financial commitment such as a loan, credit card, lease, or utility service. This allows it to pull a credit report from Experian, Equifax, or TransUnion, the three major credit bureaus. It wants to be reasonably certain that you'll make your payments. The report gives insight into your history as a borrower.

  • Alternate name: Credit inquiry

How a Credit Check Works

The three credit bureaus maintain reports on millions of borrowers, They receive regular updates on the status of your accounts from companies that have already loaned money to you. These updates are usually made once a month. The reports are used by the Fair Isaac Corp. (FICO) and by VantageScore to calculate your credit score, another critical indicator of your creditworthiness.

They'll receive a copy of your credit report from the credit bureau when a lender, landlord, or other institution makes a credit inquiry. They'll review it to evaluate not only your credit score but also whether you make payments on time and how well you can handle borrowing more money. That will determine whether you qualify for a loan and how much money you can borrow.

Lenders also look at factors such as your debt-to-income ratio (your monthly debt payments as a percentage of your monthly income) to determine whether you can comfortably afford to take on more debt.

How Hard Inquiries Affect Your Credit Score

A credit check triggered by an application for a loan or credit is called a "hard inquiry." You may have heard that hard inquiries can ding your credit score, and that’s true to an extent. You may be seen as a higher risk if you apply for multiple new credit lines in a short period of time. Your score may take a slight hit temporarily. How your score is affected by a hard inquiry depends on the type of loan that's generating the inquiry.

FICO and VantageScore treat all inquiries for the same type of loan as a single inquiry if it’s the kind that typically involves rate shopping, such as a student loan, an auto loan, or a mortgage. They'll assume you were just looking for the best rate. But the hard inquiries will be considered separately if you apply for multiple credit cards in a short period of time. You're not looking for the single best lender.

FICO will consolidate all rate-shopping hard inquiries if they fall within a 45-day window. VantageScore uses a smaller time period, just 14 days.

Hard inquiries have a much smaller impact on your credit score than other factors, such as the timeliness of your loan payments and your total debt burden. FICO considers hard inquiries from only the prior 12 months when determining your score. It says that each hard inquiry should take less than five points off your score.

How Soft Inquiries Affect Your Credit Score

Soft inquiries occur when you check your own credit report or when you give a prospective employer permission to do so. These don't affect your credit score, because you're not actively seeking new credit.

A soft inquiry can also occur when a lender wants to give you a pre-approved credit card offer. The credit card company may make a soft inquiry without your knowledge or permission. You can opt out of these unsolicited credit card offers by calling 888-5-OPTOUT (888-567-8688) if you don't want to receive them.

Soft Credit Checks vs. Hard Credit Checks

Soft Credit Check Hard Credit Check
No effect on your credit score Can hurt your credit score
Happens when employers check your credit, or credit cards run pre-approval checks Happens when you are applying for credit with a new lender or service provider
Also occurs when you check your own credit Affects your score for a year but stays on your credit report for two years
Doesn't stay on your credit report Multiple inquiries for certain loans in a short time frame only count as one hard check

How to Check Your Credit Report

You should regularly check your own credit reports from each of the three main bureaus to spot any discrepancies that might affect your ability to get a loan. They could also indicate potentially fraudulent activity. You’re entitled to a free report from each of the credit bureaus once every 12 months. You can also get a free report if you've recently been denied a loan application.

You can request the reports through the individual bureaus' websites or at annualcreditreport.com, a site that's sponsored by the bureaus as a way of fulfilling their requirement to offer the free annual reports as mandated by the Fair Credit Reporting Act.

The Consumer Financial Protection Bureau suggests getting a report from a different credit bureaus every four months so you can monitor your credit throughout the year.

Contact both the bureau and the lender in question if you see a mistake in one of your reports. Request a correction. Keep in mind that a hard inquiry by an unfamiliar lender may be a sign of fraud. Notify the bureau that you have reason to believe you've been, or are about to become, the victim of identity theft.

Each of your credit reports will be slightly different, so it’s important to check all of them eventually. Lenders update account information at different times, and not all lenders report every activity to all three bureaus. The bureaus are actually competing, for-profit companies so they don't routinely share information with each other. One exception is fraud alerts. They're required to inform each other of these issues.

Key Takeaways

  • Credit checks are performed by lenders, credit card companies, and other service providers that want to make sure you'll meet ongoing financial obligations if they do business with you.
  • Hard credit checks happen when you apply for new credit. They'll hurt your credit score, but soft checks won't.
  • Soft credit checks happen when you check your own score, when a credit card company runs a check for a pre-approval offer, or if you allow a potential employer to access your report.
  • You're allowed by law to check your credit report for free once per year with each of the three credit bureaus.

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