You've worked hard to build and protect your credit score. Don't undo all that effort by making one big credit-score mistake: submitting too many credit card applications over a short period of time.
To understand why, let's dig into how credit scores work, how credit card applications differ from other forms of credit, and how you can mitigate this risk to protect your credit score and get the credit you need.
How credit scores work
The exact algorithms used to calculate your credit score are not publicly known. We know the factors the credit reporting agencies consider, and we know the range of scores that the calculation outputs, but we just don't know the exact math used to get from point A to point B. The algorithms are proprietary for each agency and kept secret.
We know that your payment history plays a big role. The ratio of your available credit to outstanding balances -- the utilization rate -- is important, too. We also know that the number of times you apply for credit over a short period of time matters. It's that component that will drive down your credit score with too many credit card applications.
But the story is not quite that simple. Some credit inquiries don't ding your credit score, while others do. More complex still, some inquiries will hurt your score more severely than others.
For example, if a prospective employer checks your credit before offering you a job, that inquiry won't count against your credit score. Neither will an inquiry from a cable or utility company. These types of inquiries are called "soft inquiries," and the credit reporting agencies essentially ignore them when calculating your credit score.
Credit card applications and other loan applications are "hard inquiries"
"Hard inquiries," on the other hand, can influence an estimated 10% of your overall credit score. Hard inquiries include mortgages, auto loans, and, yes, credit card applications.
Among the various types of hard inquiries, credit card applications are the most dangerous threat to your credit score. The logic behind this fact has to do with how lenders assess the risks of each loan type.
For example, let's assume that you have good credit and are applying for three credit cards. You want a primary card for day-to-day use and two backup cards for emergencies. There is nothing wrong with this plan. However, if you were to apply for all three cards in quick succession, odds are your credit score would take a hit.
The reason is that banks view this pattern of behavior in terms of the worst-case scenario. To the banks, submitting a slew of credit card applications at once is viewed as trying to get access to a ton of cash at one time, cash that could easily land you in financial trouble if mismanaged. They don't know your reasonable plan, so they assume the worst.
Mortgage applications, auto applications, and other forms of installment loans are treated a bit differently. Banks and credit agencies expect you to apply for these loans at a few different places as you look for the best rate and terms. So instead of dinging your credit score for every inquiry, the credit agency will lump together all of these inquiries over a 45-day period and treat all of those inquiries as one in its calculation of your credit score.
Knowledge is power in credit card applications
In that light, you shouldn't apply for your three credit cards all at one time. Instead, apply for your day-to-day card first, and then use it responsibly for 90 days. After 90 days, apply for the first emergency card, and then wait 90 more days. Only then should you apply for the final card. This conservative, slow approach spreads out the credit card applications sufficiently to protect your credit score and still allow you access to the emergency cards you want.
Knowing how credit card applications can affect your credit score is the first step in responsibly using your credit card. If you're planning to apply for a mortgage or auto loan in the next 90 days, you should consider waiting to submit any credit card applications until after your other loans are approved.
Likewise, if you want to shop around for the best credit card deal, do your homework before you apply using the many free tools available online. That way, you can apply to the right card for your needs without dinging your credit score in the process.
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