How Could Shopping Around Impact Your Credit Score?

A credit score is a numerical representation of an individual’s creditworthiness. It serves as a key indicator for lenders, landlords, and service providers to assess the likelihood of an applicant fulfilling financial obligations. This score influences access to loans, interest rates on borrowed money, and even rental approvals. Understanding the financial activities that can impact this score, such as credit inquiries, is important for managing one’s financial health.

Understanding Credit Inquiries

A credit inquiry occurs when a lender or other authorized entity requests to view your credit report. Lenders make these inquiries to evaluate your credit risk before deciding whether to extend credit, such as a loan or credit card. Each inquiry is recorded on your credit report. These inquiries can remain on your credit report for up to two years.

Their influence on your credit score diminishes after 12 months. The presence of inquiries on your report indicates that you have recently sought new credit. A pattern of numerous inquiries in a short timeframe can suggest to lenders that an individual may be experiencing financial distress or attempting to take on a significant amount of new debt.

Hard Inquiries Versus Soft Inquiries

Credit inquiries are categorized into two main types: hard inquiries and soft inquiries, each having a different impact on your credit score. A hard inquiry occurs when you formally apply for new credit, such as a mortgage, auto loan, personal loan, or a new credit card. These inquiries signal to credit scoring models that you are seeking to take on new debt. A single hard inquiry results in a small, temporary dip in your credit score, usually by less than five to eight points. The impact can be more pronounced for individuals with a limited credit history or few existing accounts.

In contrast, a soft inquiry does not affect your credit score. These occur when a person checks their own credit score or report, or when a lender pre-approves an offer without a formal application. Examples include pre-screened credit card offers, employer background checks, or using a credit monitoring service. Soft inquiries are not visible to other lenders and do not factor into credit scoring calculations.

How Rate Shopping Affects Your Score

When seeking large loans like mortgages, auto loans, or student loans, consumers “rate shop” to find the most favorable terms and interest rates. This process involves applying to multiple lenders, which could otherwise result in numerous hard inquiries. Credit scoring models, such as FICO and VantageScore, recognize this behavior and account for it to avoid penalizing consumers.

These models treat multiple hard inquiries for the same type of loan within a specific timeframe as a single inquiry. For FICO scores, this shopping period can range from 14 to 45 days, depending on the specific scoring model used. VantageScore models group inquiries made within a 14-day window as one. This grouping mechanism allows consumers to compare offers from various lenders without their credit score being negatively affected by each individual inquiry. The intent is to encourage responsible financial behavior by enabling individuals to secure competitive rates for significant purchases.

Applying for Other Types of Credit

The treatment of inquiries differs significantly when applying for credit cards or general personal loans compared to large installment loans. Each application for a credit card generates a separate hard inquiry on your credit report. Unlike the rate shopping allowance for mortgages or auto loans, these individual inquiries are not grouped by credit scoring models.

Consequently, applying for multiple credit cards or personal loans within a short period can lead to several distinct hard inquiries, each potentially causing a small, temporary drop in your credit score. Beyond the immediate impact of inquiries, opening several new credit accounts rapidly can also affect other aspects of your credit profile. It can lower the average age of your credit accounts and potentially increase your credit utilization if balances are carried, which can further influence your overall credit score. Therefore, a strategic approach to applying for credit cards and personal loans, spacing out applications, is advisable.