Does Applying for a Loan Hurt Your Credit?

Each time you apply for a loan, those banks and lenders make an inquiry into your credit report to determine your credit score and how responsible you've been with financial management. They use this information to determine whether to extend credit and approve the loan. Too many loan applications can have a negative impact on scores, depending on a variety of factors. Existing creditors may make inquiries to ensure that their customers are generally keeping up with loan payments, although those have no impact on credit scores.

Applying for Credit

According to Fair Isaac, research shows that "opening several credit accounts in a short period of time represents greater credit risk." As a result, credit scores will generally go down. This is because those consumers who may be in a financial bind are more likely to apply for multiple loans, including credit cards, than people who are in a secure financial position.

Impact from Inquiries

There is no set formula for determining the impact of a loan application on your credit score. This depends on a variety of factors including length of credit history, credit utilization and payment consistency. One or two credit inquiries for a loan will generally have little impact. For those consumers who have a brief credit history or only one or two open accounts, the impact will be much greater. Fair Isaac points out that "people with six inquiries or more on their credit reports can be up to eight times more likely to declare bankruptcy than people with no inquiries on their reports."

Types of Loan Applications

In general, the impact on credit scores is the same whether applying for a credit card, auto loan or line of credit. Problems can arise when consumers apply for a loan in order to make the payments on a credit card or another loan, which leads to an escalating cycle of increasing interest charges and payment difficulties.

Multiple Inquiries

Consumers who shop for cars, mortgages or student loans often apply to multiple lenders, which causes many inquiries even though only one loan is the goal and end result. This is known as "rate shopping," for which credit scores remain unaffected. The result is that such multiple inquiries are counted as only a single inquiry for credit-scoring purposes.