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How Does A Credit Check Work And Why Does It Matter?

Taking out loans or applying for a credit card are just some of the financial decisions that could affect one’s financial well-being. While there are other ways to manage finances, many have relied on credit to make purchases and cope with their current financial situation.

Having a good credit score is essential, especially to those who count on credit to get on their personal or business finances. Aside from getting a credit card or loan, credit scores show one’s history of paying debts to lending institutions. Thus, a credit check could reveal one’s credit score and credit history information.

While a credit check is unavoidable, understanding how it works and why it matters might help you make better choices in finding the right credit option. Take a look at how a credit check can benefit you and the company that would loan you the money. 

What Is A Credit Check?

A credit check is when a company looks at the information on your credit report to assess your financial behaviour. Your credit report is a detailed record of how you pay your bills, such as credit cards, rent, utility bills, and any past or current loans. It is used to determine your credit score, which is a critical indicator of your creditworthiness.

Whenever you apply for a loan, a credit card, or hire purchase, the corresponding entity will probably perform a credit check. The lender does this to evaluate if you can pay back what you owe and make payments on time.

It is worth noting that information from companies, such as your power or phone providers, will be feeding into your credit report. It is necessary to keep a good credit history because it can affect your ability to borrow money.

Two Types of Credit Checks

There are two types of credit checks, otherwise known as pulls or searches. Understanding the nature of each and its impact on your credit might help you keep track of the inquiries that may influence your credit score.

Soft Credit Check

A soft credit check is an initial survey of specific information on your credit report. It provides creditors with a broad summary of your credit history without affecting your credit score. Soft searches occur in different ways. One example is receiving a pre-qualified offer or quote in the mail from a credit card or insurance company.

Soft credit checks include requesting your own credit report or an employer checking your credit. Moreover, soft inquiries don’t necessarily require your permission. A lender can look at your report without having to notify you under certain circumstances such as those mentioned above.

Hard Credit Check

A hard credit check is when a company performs a thorough search on your credit report. It usually occurs when you apply for a credit card, business loan, mortgage, or other types of loan. In other words, you can trigger a hard credit check every time you apply for credit.

Unlike a soft credit check, a hard credit check is visible to companies, which means each hard check is recorded on your report. Several hard credit checks in a short period can affect your credit score and reduce your chances for credit approval in the future. Though your score usually bounces back in less than a year, a hard credit check stays visible on your report for two years.

Keep in mind that several hard inquiries in a short time might stipulate that you are trying to get more credit than your resources can afford. A credit check, particularly hard inquiry, may show your reliance on credit or worse, desperation. However, if you have a history of using credit responsibly, lenders might still view you favourably.

How To Run A Credit Check?

While it is the lender who would perform a credit search when you’re applying for credit, it might also be a good idea to run a credit check online. There are eligibility tools that can check how likely you will get approved without performing a full credit search. You can take a look at your credit report through a soft search that doesn’t affect your creditworthiness.

By regularly checking your own credit report, you can better understand your current credit position. It can also help you become more aware of what lenders may see when you apply for credit. Whether you are planning to buy a home or just being updated on your finances, checking your credit reports and scores can help you prepare better.

In the UK, there are many credit referencing agencies which you can look into if you want to run a credit check. However, they don’t give the same score. Thus, it might be better to choose the agency that best suits your lending needs. Consider agencies used by your prospective lender.

The Benefits of Running A Credit Check

At first glance, running a credit check might seem more beneficial to the lender. It enables them to maintain positive cash flow by determining whether you will pay on time or not. By doing a credit check, they can have better predictions on your ability to repay your loan. With this, they can manage their cash flow better.

Credit checks also help lenders determine suitable interest rates. If they are going to risk lending money to you, they would prefer to implement an interest rate that matches that risk. Performing a credit check will help them identify whether you are a significant risk or not.

While there are several advantages that the lender can acquire in credit searches, it can benefit you as well. By running a credit check, you would know both your ability and limitations in borrowing, as well as spotting erroneous credit reports that you need to dispute. That way, you’ll have less reason for lenders to doubt your creditworthiness. It is easier to manage your finances when you exactly know what’s going on with your credit report.

Takeaway

Applying for credit can be overwhelming sometimes. Additionally, it is essential to remember that every credit application can either improve or aggravate your financial status. The key here is to be both in sync with your financial needs and resources and be updated with your credit report. Remember, a credit check is not just about getting approved for a loan, but also assessing your financial behaviour.

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