Does applying for a loan hurt your credit score?
When you submit an application for a loan, the lender will conduct a ‘hard enquiry’ of your credit score. This enquiry remains visible to other lenders in your credit history, allowing them to see how recently and frequently you’ve tried to access credit.
If there are multiple hard inquiries on your credit file over a short time, your credit score may decrease, and you will find it harder to gain approval as you may appear ‘credit hungry’.
What are credit scores?
Credit scores represent the perceived risk of a borrower to a bank or lender. As an individual in Australia, you have a separate credit score with each credit reporting bureau: Equifax, Illion and Experian. Each reporting bureau has its own datasets, reporting intervals, and tiers of risk – meaning your credit score and creditworthiness may differ from one to the next.
Various events can affect credit scores, including
- Previous applications for credit/hard inquiries on your credit file.
- Outstanding loan liability or credit limits.
- Late payments on bills such as a credit card.
- Adverse events, such as defaults or bankruptcy.
Due to the introduction of Comprehensive Credit Reporting (CCR), positive payment behaviour can also affect your credit score with the bureaus. Examples can include successfully paying off a loan or regularly paying bills on time.
Credit score scales: Experian, Equifax and illion
For a business, credit scores for your company and trading partners can best be sourced from reporting agencies such as CreditorWatch. Our RiskScore technology leverages extensive subsets of data and sophisticated machine learning to assess creditworthiness quickly and easily. Each business is scored 0-850 (the higher, the better) and placed in a risk tier from A1 to F. This distils the complex data into easily understood terms – allowing more informed decision-making.
How important is it to consider the impact on your credit score before applying for a loan?
You must remain conscious of the effect of applications on your credit score, especially if you submit multiple applications over a short time. If you’re wondering, why does applying for a loan hurt your credit score sometimes? It is because too many hard inquiries on your credit file may mean lenders perceive you as ‘credit hungry’ – desperate to secure funds.
This perception will damage the prospects of loan approval in future. The lower your credit score is across each reporting body, the more conscious you have to be of these negative impacts.
Generally, how do loans factor into your credit score?
There are a few ways the data from loans factor into your credit score. Firstly, as discussed, the hard enquiry on your credit file may have an impact. Secondly, your payment behaviour during the lifespan of a loan may also make a difference. Your credit score may decrease if you fail to meet repayment requirements on time and in full.
With the introduction of Comprehensive Credit Reporting, positive borrower behaviour can also potentially increase your credit score. Positive repayment history information is now included in the data used – adding extra incentive for borrowers to meet their repayment demands before they are overdue.
Under what circumstances can an application for a loan negatively impact your credit score?
So, does applying for a loan hurt credit? It depends on the circumstances. There are two typical scenarios that may result in the hard enquiry from an application negatively affecting your credit score:
- You’ve already submitted multiple credit applications recently.
Every application will likely result in a hard enquiry on your credit file. These inquiries remain visible to other lenders who will view your credit history for at least five years. They use the frequency to determine how desperate, or credit hungry, you are to secure funds. Submitting multiple loan applications at one time is not recommended. Contrary to what you might believe (casting a wide net etc.), it can harm your chances for approval and may lower your credit score.
- You reapply too soon after previously being knocked back.
Should you get knocked back for a loan, you may have failed to do the due diligence to ensure that you meet eligibility requirements and lending criteria. Similarly to submitting multiple applications simultaneously – if you reapply too quickly after being rejected for a previous application, the lender may conclude that you are in a rush to secure debt. As with the above, this can result in a decrease in your credit score.
Can applying for a loan positively impact your credit score?
Securing approval for the loan doesn’t positively impact your credit score, but your payment behaviour can. Your credit score may increase if you prove yourself to be a reputable and trustworthy borrower, evidenced by regular repayments on the loans you have. As you prove yourself capable of servicing higher or more long-term debts, such as a property or car loan, lenders may see you as more creditworthy.
How can you protect your credit score from being hurt by a loan application?
If you’re considering applying for a loan, taking the following actions may assist in protecting your credit score. For more specific advice, refer to your trusted financial advisor before applying for any loan or debt product.
- Check your credit score regularly with each bureau.
Checking your credit scores with each reporting body will give you a clearer picture of how creditworthy lenders will perceive you. You will have more information to determine if you meet the eligibility criteria for a loan before applying, potentially mitigating negative impacts on your scores.
- Check all lending criteria and requirements.
Each lender has various eligibility checks they use to ensure that the loan product is suitable for the applicant. You should confirm you meet these requirements before applying, as failure to meet the criteria will almost certainly guarantee rejection.
- Find the most suitable product for your needs.
Compare and contrast different loan products comprehensively to determine which best suits your particular needs. Finding the most competitive loan product for you may prevent the need to submit multiple applications.
- Independently assess your debt capacity.
It may be worth conducting an in-house analysis to determine your budget and capacity to service debt. Having a clear picture of your debt limit, and adhering to that limit, may assist you in avoiding overextension and credit stress.
- Seek pre-approval where possible.
Some lenders offer prospective borrowers the opportunity to assess their suitability for a particular loan before submitting a formal application. Pre-approval may allow you to determine eligibility and borrowing limits.
- Wait a suitable time between applications.
As mentioned above, you should avoid multiple ‘hard inquiries’ in quick succession on your credit file. If you get rejected for a loan, consider taking time before submitting another application. Perhaps work to improve your credit score information by ensuring that you pay all bills and current loans on time and in full, which may help secure further credit in future.
Credit check trading partners with CreditorWatch
For Australian businesses, every tool you need to assess the creditworthiness of partner businesses is within the CreditorWatch suite. Our market-leading RiskScore technology distils complex data, from over 11 million monthly trade lines, into simple, readable terms. Each business is scored from 0-850 and allocated a risk tier from A1 to F. Inform your decisions with sophisticated data, and you can protect your cash flow from the risk of bad debtors.
Once onboarded, the protection doesn’t cease. Our interactive trade platform, DebtorLogic, allows you to regularly monitor your entire Aged Trial Balance for signs of deteriorating payment behaviour and elevated probability of default (PoD). If any vital information changes, you can rest assured that our automated 24/7 Monitoring and Alerts system will email you immediately. There’s no point in leaving your risk exposure to bad debt and risky creditors to chance. Our tools can help you navigate the dangers.
If any trading partner represents a high-volume or high-value relationship, then dive deeper with a full Financial Risk Assessment. This all-inclusive analysis of two to three years worth of company financials, including income and cash flow statements, provides the security you need to rely upon another business. Accompanied by analysis from a qualified Chartered Accountant (CA) or Certified Professional Accountant (CPA), it gives the most comprehensive insight into business creditworthiness available to the market.
To protect your cash flow, speak to our expert team today.
Get started with CreditorWatch today
Take your credit management to the next level with a 14-day free trial.