Hard vs. Soft Credit Checks: What You Should Know

Understanding Credit

Whether you’re buying a car, getting a mortgage, or even applying for a credit card, credit is an important part of everyday life. At its most basic form, credit is an evaluation system that allows you to borrow money or make purchases now with the promise to repay later, typically with interest. Your credit score, a number ranging from 300 to 850, represents your creditworthiness based on your financial history. Lenders will use this score when reviewing applications to evaluate how likely you are to repay your debts.

Credit scores are influenced by factors such as your payment history, amount of money you currently owe, length of credit history, new credit, and what types of credit may be utilized. Understanding how credit works as well as how your credit score is determined are both essential for making informed financial decisions and managing your borrowing responsibly.

Benefits of Good Credit

A strong credit score opens opportunities and offers a range of valuable benefits. One of the most significant benefits is access to loans with more favorable terms. Lenders are typically more willing to offer loans to individuals with strong credit scores because they are seen as lower-risk borrowers.

Good credit may also provide opportunities for lower interest rates on loans and credit cards. Lower interest rates typically save you a substantial amount of money over time, ultimately making borrowing more affordable. Additionally, having good credit usually makes it easier to rent an apartment, get favorable insurance rates, and even land certain jobs that require a credit check.

Building Credit

Keeping the benefits of credit in mind, building credit responsibly is essential for long-term financial success. Many borrowers start their credit-building journey by applying for a credit card. While establishing credit early is important it’s just as crucial to avoid over-relying on credit cards without fully understanding their impact. Be sure to make regular, on-time payments for bills in your name, such as utilities or a phone plan, as these demonstrate financial responsibility.

Another effective option to build credit is a credit-builder loan, which allows you to make small payments that are reported to the credit bureaus. You might also consider a secured credit card, a credit card backed by a cash deposit, to help establish your credit history while minimizing risk. By focusing on responsible borrowing and consistent payments, you'll build a strong credit foundation for the future.

Hard Credit Checks

A hard credit check, also known as a hard inquiry, happens when a lender or financial institution reviews your credit report to make lending decisions. This process may slightly decrease your credit score and will stay on your credit report for up to two years. To avoid any potential negative impact, it’s advisable to limit the number of hard inquiries as frequent checks indicate to lenders that you may be a higher-risk borrower.

Hard inquiries are necessary for applications involving significant credit accounts like mortgages, loans, or new credit cards. An example of a hard credit check when applying for a mortgage would be when you submit an application to a bank or lender for a home loan.

As part of the approval process, the lender will pull your credit report from one or more of the three major credit bureaus (Equifax, Experian, or TransUnion) to evaluate your financial history, creditworthiness, and ability to repay the loan.

Soft Credit Checks

Soft credit checks, often referred to as soft inquiries, happen when your credit report is accessed for purposes that do not involve lending. Examples include background checks by potential employers or when you check your own credit score.

These inquiries differ from hard credit checks in that they do not impact your credit score and are not visible to other lenders who might review your report. Soft inquiries provide a snapshot of your credit without the consequences of a hard inquiry, making them a useful tool for lenders and other parties to assess your creditworthiness without affecting your score.

This type of check is often used for marketing purposes, allowing companies to offer pre-approved credit offers based on your existing credit profile. Understanding the nature of soft credit checks helps better manage how and when your credit report is accessed.

Credit in Loan Applications

When you apply for a loan, your credit score is a major factor lenders consider when evaluating your creditworthiness. A higher credit score generally means you are seen as a lower-risk borrower, which may unlock better loan terms, lower interest rates, and higher loan amounts.

During the loan application process, lenders will often perform a hard credit check to get a comprehensive view of your credit history. This includes looking at your payment history, the amounts you owe, and the length of your credit history, among other considerations.

It's important to have managed your credit well before applying for a loan. By maintaining good credit habits, your credit score may improve over time and increase your chances of being approved for loans with favorable terms.

Monitoring Your Credit

Regularly monitoring your credit report is a key tool in maintaining your financial health. By keeping an eye on your credit, you'll quickly spot inaccuracies or fraudulent activities that could negatively impact your score or borrowing abilities.

Many online services offer free access to your credit report and score, allowing you to stay updated. The score provided by these online services is an estimate and may differ from scores pulled by lenders or other sources. Credit scores may also vary depending on which of the three major credit bureaus you use, Equifax, Experian, or TransUnion, as each might review slightly different data. Different scoring models like FICO and VantageScore also result in variations.

Whichever route you take, utilizing resources like the Merchants Bank credit score tool inside Online & Mobile Banking provides valuable insights into your current credit status and helps you track change over time. Taking the time to review your credit report periodically ensures you catch any errors early and allows you to address them promptly. Remember, knowing where your credit situation stands is an important step in making better financial choices.
 
Learn more about credit basics by talking to your banker or reading our resources.