Borrowers penalised by credit checks
Credit searches are putting borrowers off shopping around for competitive products, MPs have been told.
The Treasury Select Committee is currently investigating whether the credit search sector treats borrowers fairly, and the impact of multiple credit searches on consumers.
This might lead to other lenders rejecting your application, or offering you a less competitive interest rate than the typical APR advertised – known as risk-based pricing. Currently, lenders have to offer their typical APR to two-thirds of loan applicants.
The Treasury Select Committee was told that credit search leave borrowers in a no-win situation. On one hand, the increasing use of risk-based pricing means many borrowers shopping around for credit won’t receive the typical APR advertised.
However, if they continue to search for credit elsewhere they risk damaging their credit rating – which could make it harder, or more expensive, for them to borrow down the line.
It is believed that as many as 46% of people don’t realise that making multiple applications for loans or other forms of credit could impact credit rating.
In fact, when a lender searches your credit record, it leaves a ‘hard footprint’ that can be seen by other lenders. Although being rejected for a loan won’t be recorded on your file, numerous footprints within a short space of time can adversely affect your credit rating.
Toby Van der Meer, managing director of moneysupermarket.com, who gave evidence to the Committee, says: "Those consumers who understand the consequences of making multiple applications are fearful of shopping around and do not apply because of the uncertainty of the system.
"This means they are not necessarily getting the best deals, while those who don't understand this are damaging their credit files, which prevents them from accessing the best deals - it is a no-win situation.”
People on low incomes are the most affected by the issue, he added.
Consumer groups want to see a system introduced whereby providers use quotation searches rather than full credit searches on applications. However, it is not clear how many consumers would benefit from such a system being introduced, or whether it could have a negative impact on typical APRs.
It is feared that reducing lenders’ ability to credit check potential customers could see them increase interest rates in order to reflect the risk potential.
The British Bankers’ Association, in its written evidence submitted to the Committee, says: “Searches in isolation have little material impact on credit decisions, but become more predictive when used in conjunction with other data characteristics, particularly those that identify that further borrowing could lead to the consumer becoming over-indebted.”
It adds that multiple credit searches within a short period can indicate fraud is taking place: “Credit searches therefore help the credit industry to counter this challenge to the UK consumer.”
This is used to compare interest rates for borrowing. It is the total (or “gross”) interest you’ll pay over the life of a loan, including charges and fees. For credit cards where interest is charged at more frequent intervals, the APR includes a “compounding” effect (paying interest on interest). So for a credit card charging 2% interest a month (equating to 24% a year), the APR would actually be 26.82%.