The credit application process can be confusing. You may know that submitting an application can affect your credit. When a prospective creditor accesses your full report, it registers as a “hard” inquiry, which demonstrates that you are in the market for credit. But not all inquiries are hard inquiries, and you can minimize the effect of hard inquiries by planning ahead.
THE SOFT TOUCH
The one concept every adult with credit should understand, at a minimum, is the difference between hard and “soft” credit inquiries.
- Soft credit inquiries result from credit checks executed by any party that is looking for a general idea of your current credit profile. The most common example is a creditor that uses public records to check long lists of people who may be candidates for “pre-approval” offers. Some states allow prospective employers to access a limited version of your credit report as part of a background check. These types of credit checks don’t require your explicit permission, they do not include many specifics, and they don’t affect your score.
- Hard credit inquiries are a completely different matter. They do require your permission (and, in most cases, your Social Security number), they do result in a full credit report, and they will reduce your credit score by a few points. They will also appear on the report your next prospective creditor sees. Note: Only enter your Social Security Number into a loan application if you are ready to apply and have your credit pulled. When you submit a loan application with your Social Security Number, your credit will almost always be pulled immediately.
Generally speaking, having two hard inquiries or less on your report at any given time isn’t going to have much impact overall. Three or four might not even make much of a difference. But any more than that will. Your score will be reduced appreciably and creditors may be reluctant to work with you if it appears you are desperately seeking more lines of credit than you can afford. They have to minimize their risk.
There is an exception: When a number of hard inquiries register within a short period of time, the credit reporting agencies will group them together as “one” inquiry on your report. If you are in the market for an auto or home loan, it is critical to plan accordingly.
PULL THE TRIGGER
To minimize the effect of the application process on your credit score, go as far into the process as you possibly can before you pull the trigger on a hard credit inquiry. If you can determine only one creditor is worth applying to, or if you can submit multiple applications at once, you will only lose a few credit score points. And if you have a very long credit history, have paid your bills on time, and have no other red flags, your score will likely recover in a few months, at most.
Here are a few scenarios in which you can feel safe pulling the trigger on a credit application:
- You are ready to buy. You have done your research, you know what you need to buy and how much it costs, and you have narrowed your selection of prospective creditors.
- You need a place to live. If you are in the market for a new apartment, and you find the perfect one, don’t hesitate. The credit application is just part of the process.
- You need a job. If your state allows employers to run a credit check, employers are within their rights to make it a condition of employment. This should, however, only count as a soft inquiry.
- You get an offer for a department store credit card. While there are times when store cards can be beneficial, it is in your best interest to limit the number in your wallet. If the savings are real, and you are not now or soon will be in the market for a more important purchase, it’s OK to pull the trigger.
- You need a credit card. Diversity is key to a healthy credit profile. If you have never had a credit card, and you are preparing for a major purchase, it may be worth obtaining one to add a “revolving credit” entry and activity to your report — even if it knocks your score down by a few points.
As you can see, there is no right or wrong way to manage credit inquiries. A good rule of thumb is to limit hard inquiries to those times when you know you wish to purchase something and avoid them the rest of the time. However, by maintaining otherwise excellent credit practices — particularly paying your bills on time and keeping revolving balances low — the impact that hard inquiries will have will be minimal.