A credit check is the process of a lender or creditor looking at a borrower’s credit score or credit report to determine if they’re trustworthy enough to receive a loan. They come in two forms: a hard credit check, and a soft credit check. Hard credit checks or inquiries will affect a borrower’s credit, while soft credit checks do not.
What Is A Credit Check?
A credit check is usually associated with the process of taking out a loan. Other parties, other than a lender, are also allowed to run a credit inquiry with your permission, although this term is more often used in the context of loans.
Since prospective lenders must determine whether you are a suitable applicant, they typically have to run a credit check. During this process, a lender looks into your credit history to determine if you qualify for the loan and what terms you should be offered.
While some lenders will offer loans without performing credit checks, these offers are sometimes scams. It’s recommended to be careful and check the legitimacy of a lender before signing any contract.
Who Can Check Your Credit?
Prospective lenders are not the only party that can run a credit inquiry. When you apply for a job or want to rent a home, the potential employer and your landlord are also allowed to access certain information from your credit report to determine how likely you are to pay rent on time or be a trustworthy employee.
Other than these, investors, courts, utility providers, mobile phone companies, and government or collection agencies are also allowed to see your credit report.
What Does a Prospective Lender See?
When they gain access to your credit report, a prospective lender will look at the “five Cs”—capital, capacity, collateral, conditions, and credit history.
Capital refers to any money that you can use to make payments, including your salary as well as the salaries of other members of your household, a savings account, an investment, etc.
Capacity refers to your salary. The lender will check how long you have been with your current employer, how stable your employment is, and how high your monthly income is to determine if you are going to be able to make your payments.
Collateral is an asset of yours that can be used to secure the loan. If you default on the loan, the lender can sell this asset and use the money to recoup the loss. When you apply for a mortgage, the home you have bought is typically used as collateral.
Conditions refer to the terms of your loan, including interest rates and the sum of money you can borrow. Candidates with good credit usually receive lower interest rates and can borrow more money. If you are applying for a personal loan, you might need to tell the lender what the purpose of the loan is.
Credit history is perhaps the most vital factor when a lender is deciding whether to approve your loan application. They will take a look at your previous debts, credit card or utility payments, and your credit score to see how you have managed your money in the past.
What Does a Prospective Employer See?
In addition to your résumé and job interview, your prospective employer might also be interested in your credit report. Not all companies will ask for your permission to see your credit history. This is common if you are applying for a position that involves some kind of money management, such as accounting or banking. These jobs involve handling large amounts of money and high confidentiality.
Typically, this check happens later during the hiring process when you have already passed round one or two of the interviews.
Potential employers cannot see all the information included in your credit report, only what concerns them directly. Your credit score and your birth date are not included in the information available to them.
Employers can see your name, address, and Social Security Number, which helps them determine your identity. Also, they can see how much overall debt you have by type—student loans, mortgage, credit cards, etc. They can also see if you have been making the payments regularly, and any late payments will also be available for them to see.
The information in your credit report is protected by law—more precisely, the Fair Credit Reporting Act. This legislation prevents employers from running a check without your written permission, which you usually grant when you submit your job application. The employer cannot discriminate against you if bankruptcy was discovered in your report, and you must be notified if the employer turns down your job application based on the credit report information only.
Note that this kind of credit inquiry is not allowed in all states, and a commission (the Equal Employment Opportunity Commission) ensures that employers are using these checks fairly, without discriminating against their potential employees because of irrelevant factors, such as race or gender.
What Does a Potential Landlord See?
When looking for a home to rent, a prospective landlord may also look into your credit history. They do this to protect themselves from tenants who do not make their rent payments on time. By looking into your credit history, they can see if you are keeping up with your payments, and they might also look into your social media accounts or bank statements.
Landlords can gain access to your credit report in several ways:
- Through a credit bureau. The three credit agencies allow landlords to perform credit checks with your permission. These credit checks are usually considered soft pulls.
- Through a landlord association. After they pay a fee, landlords can use the services of the National Association of Independent Landlords to see the prospective tenant’s credit report. These checks are typically listed as hard checks, so they can lower your credit score.
- Through an online screening service. These services allow prospective landlords to find out your credit score range, but not the exact number, as well as some other information that may concern them.
- During an applicant interview. Some landlords may choose to talk to you directly and not request a credit report from an institution, or they may ask you to bring a copy.
What landlords typically look for in a credit report are signs that you will be able to keep up with payments. They will likely be checking that you have made credit payments on time, that you have a high income that will allow a higher deposit, no criminal convictions, and no previous evictions.
Can You Refuse a Credit Check?
You are allowed to refuse a credit inquiry from your prospective lender, landlord, or employer. If you decide to do so, they will not be able to gain access to your financial history. However, this may lead to them making certain assumptions about your credit report, so the best practice is to allow access to your file and then discuss potential issues in person.
Note that there may be lenders that will not ask to see your credit report. In these cases, it’s crucial to establish the trustworthiness of the lender to avoid scams or predatory practices.
Before a lender approves your loan application, they need to know how much risk lending you money carries for them. For borrowers with good or excellent credit scores, the risk is typically low. Their credit score is evidence of their creditworthiness. Such applicants can be approved for an unsecured, or a signature loan, with good rates.
If a borrower’s credit score is fair or poor, the lender might consider them risky and more likely to miss payments or even default on a loan. However, since a credit score is not the only factor the lender bases their decision on, other information from the credit report is also taken into account. If there are other negative entries, such as bankruptcy, missed utility payments, or foreclosures, the lender will probably need collateral as back-up, and the borrower will not be able to get the most affordable rates.
Are Credit Checks Hard or Soft Inquiries?
This depends mainly on who is checking your credit. A hard credit pull will negatively impact your credit score (although temporarily), and your credit score will bounce back after 12 months. These checks are typically made by prospective lenders each time you apply for a credit card, a personal loan, a mortgage, or even a mobile phone plan, but employers or landlords will also perform checks, albeit less frequently. These inquiries typically show on your credit report for two years.
Note that having too many hard checks over a short period may affect your credit score even more. Too many of these inquiries are often seen as negative and can decrease your eligibility for a loan.
Soft credit pulls do not affect your credit score. They are not visible to employers, landlords, and most lenders, and you can typically have as many soft checks as you would like without any trouble. When you check your own credit score online, a credit card company checks to send you a pre-approved offer, or there is a simple account review, it is considered a soft pull, and your credit score remains the same.
It is also not unusual for lenders to run another credit inquiry when they have already approved your loan. They just want to ensure that your financial circumstances still allow you to make your payments on time. These inquiries are also considered soft, as well as when a company runs a credit check to confirm your identity.
Hard inquiries cannot be conducted without your approval, while soft credit checks can happen without your permission. However, hard inquiries can be avoided if you only apply for loans you know for sure you are qualified for.
What Information Is Relevant for Credit Checks?
While your credit score is important for anyone who checks your credit report to approve your loan or apartment application, it is not the only factor considered. Your credit score is based on your credit history, outstanding debt, and other aspects of your financial history, so they are equally important.
A credit report consists of four main sections: your personal information, information about your accounts, hard and soft inquiries, and public records. Your personal information section features your name, current address, previous addresses if available, social security number, your birth date, your current employment, and your phone number.
Your accounts or credit information contains a lot about your financial history. For instance:
- All the credit accounts you own
- Recent and monthly payments
- Recent and highest account balance
- The total amount of money you borrowed (if you have a loan)
- Your credit limit
- How long you have had any of the accounts
- Any closed accounts (this information is visible for 10 years)
- A 2-year record of your payment history (which is the most important part of your credit score)
Depending on who is checking your credit report, different information will have different importance. Credit inquiries list all the hard credit checks and soft pulls within the last 24 months. Public records refer to any legal actions, such as bankruptcy. Some other information, like tax liens, property purchases, foreclosures, a divorce, or a court judgment, will also be listed in this section.
Regular Credit Report Checks
Any U.S. citizen has the right to see their credit report at least once a year, if not more often, in some special circumstances. The process has been simplified so you can order the report online.
These checks are considered soft, and they do not affect your credit score. This is why many applicants use them to get prepared for any loan, apartment, or job applications.
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