With the increasing ease of access to free credit scores and credit reports, consumers are paying more attention to these than ever. An entire industry has sprung up around counseling people about what impacts their score. One factor that has received a lot of attention and may be causing some confusion is how the number of hard inquiries (sometimes also called “hard pulls”) impacts your credit.
What causes a hard inquiry to appear on your credit report?
Simply put, applying for a new form of credit will cause a hard inquiry to appear on your credit report. The confusing part these days is determining what counts as “applying”. An increasing number of products will use a two step process, where you can “pre-qualify” or “see what you qualify for” (language may vary), which uses a “soft inquiry” that does not impact your score. Many credit cards and personal loans are offer this feature.
If you do qualify for an offer, you can choose to proceed with an application, which will generate a hard inquiry. Most but not all lenders make clear the point in the application when you are authorizing a “hard pull” and thus impacting your credit score.
What if you’re shopping around for a loan?
If you’re shopping around for an auto loan or mortgage, it’s not unusual to apply with multiple potential lenders. Good news here. According to Equifax, multiple hard inquiries for the same product type within a short time period (usually 15-45 days) are usually treated as a single inquiry by most credit scoring models. Note this exception doesn’t generally apply to other types of credit, like credit cards or personal loans; for these products, take advantage of the ability to pre-qualify and check your rate before generating a hard inquiry application.
Why do hard inquiries hurt your credit score?
Because a hard inquiry results when you are applying for credit, it is a sign (variable or feature, in bank-speak) that you are seeking to open new credit. Thinking about it another way, this is a sign that you’re looking to take on more debt, which could increase your monthly payment obligations. In credit scoring models, this behavior is predictive of increased riskiness, and thus will hurt your credit score.
How much does a hard inquiry effect your credit score?
Interestingly, neither FICO® nor VantageScore® specifically address hard inquiries in their consumer documentation, instead referring to “new accounts” – which combines the impact of the hard inquiry and the recently opened account. We’ve found that a single hard inquiry can drop your score by 5-10 points (will vary by scoring model). A drop of 5-10 points is unlikely to reduce your likelihood of approval or change the pricing (interest rate) you’re offered.
The bigger impact will be if you open a new tradeline, like a credit card, and immediately begin utilizing a significant proportion (over 20%) of the available credit. This signals to lenders that you’re rapidly taking on new debt and may be in trouble.
It’s important to remember your likelihood of being approved for new credit doesn’t just depend on your credit score. As we talk about in response to a reader question, it’s possible to have a good score and still be declined. While a couple of hard inquiries may only drop your score 10-20 points, if a lender has a “hard cut” in their credit policy for the number of hard inquiries in the last six months, this could cause you to be declined when you’d otherwise be approved.
Have a personal finance question?
We’re here to serve you. Send us your personal finance questions, and we’ll address them in upcoming posts.
photo: Tachina Lee on Unsplash