Credit 101
Tim Ulbrich and Tim Baker, CFP® dig into credit, a not so exciting but incredibly important part of the financial plan. They talk about what makes up a credit score, the impact of good (or poor) credit, how to find and interpret your credit score, the difference between hard vs soft credit checks and how to protect your credit.
Summary
Assessing your credit report and credit score are integral pieces of the financial planning services offered at YFP, but why? The CFP® board focuses on several different topics like budget, taxes, insurance, retirement and estate planning, but YFP Planning expands that list to support clients with essentially any aspect of their life that carries a dollar sign. On this podcast episode, Tim Baker breaks down credit, its misperceptions and what factors go into your credit score.
Tim explains that credit starts with you and your behavior and that agencies create credit reports based on what they get from creditors, like loan servicers or credit card companies. A credit score is created from this record of payments and essentially shows a snapshot of your reliability or likelihood of paying debts on time. You’re then able to use your credit score to apply for more credit. Your credit score matters because it affects if you can get more credit and how much you pay for that credit (i.e. interest).
Tim also shares the 6 factors that go into a credit score. The high impact factors are credit card utilization, payment history and derogatory marks. Medium impact factors include age of credit and your total number of accounts. Finally, a hard inquiry (think applying for a credit card or mortgage) has a low impact on your credit.
Mentioned on the Show
- YFP Planning
- AnnualCreditReport.com
- YFP 159: 5 Lessons Learned During a Home Refinance
- Join the YFP Facebook Group
Episode Transcript
Tim Ulbrich: Hey, what’s up, everybody? Welcome to this week’s episode of the Your Financial Pharmacist podcast. And today, Tim Baker and I are going to be talking all about credit. So Tim Baker, welcome back to the show.
Tim Baker: Yeah, I think it’s been awhile since I’ve been on a full like episode, so it’s good to be back.
Tim Ulbrich: It is. I feel like every time we do this, we say that and then we say we’re going to do more of it, and then, you know, it ends up being awhile. But we are going to do more of it in the future, and we have been doing more of it with the Ask a YFP CFP segment of the podcast. So Tim, credit as it relates to the financial plan. And with YFP Financial Planning clients, credit is a presentation, it’s a module that you walk through. And I think many people may not think about this as a core part of the financial plan and perhaps not even covered by many financial planners. So talk to us about why is credit such a big part of our financial planning services that we offer? And what’s really the goal of talking to clients about this topic?
Tim Baker: Yeah, so I think there is — you know, I kind of look at the financial plan. I mean, you have the core pieces that the CFP board teaches and there’s curriculum for that. And that’s the things that we talk about, which are kind of budgeting, cash flow, your balance sheet, tax, insurance, investment, retirement planning, estate planning. Those are the things that are — you know, debt management, not necessarily student debt but overall debt management — so those are the things that we kind of talk about as core to the financial plan. And we kind of — we do those things, you know, at YFP Planning, but we also have kind of adapted our service to talk about more things that are kind of top of mind for a lot of our clients and kind of what they’re experiencing. So those are things like hey Tim, I’m buying a home. What do I do? And you know, very much related to that is credit, you know, is making sure that the credit is pristine and looking good. It could be planning for a kid’s education, salary negotiation, things like that. So we kind of — real estate investing, most financial planners are not going to get into real estate investing because they’re not necessarily paid on the assets that are in real estate portfolios. So we kind of drift a little bit to kind adapt our service. And I would say credit is one that a lot of people don’t think about. But we often do it in tandem with the home purchase, so say, “Hey, if you’re going to make the biggest purchase of your life,” — and I’ll put it in and edit on that because I have clients that are like, “Well, the biggest purchase of my life is my pharmacy, my PharmD.” And I’m like, “OK, if you’re going to make the biggest purchase of your life at one time, you want to make sure that you get the — you have the best, you know, your credit is as best it can be and you get the best terms.” So a lot of people — and I can say, you know, we talk about mistakes that we’ve made in the past. I know, like in past life, I was afraid that my credit score — and I never really checked my credit, so I remember renting an apartment way back when, this was kind of when I was getting out of the Army and I’m like, I wasn’t always as great a saver and I would carry credit card debt and all that kind of stuff. And I would be scared because they were like, “Hey, we’re going to run a credit report.” I’m like, oh my goodness, like my credit’s probably looking — and I had no idea what it was. And I’m like, I was almost apologizing for my credit score, not knowing what it was. And I think it came back, it was like in the 800s. So in a lot of ways, credit is a good measure of your dependability and reliability and kind of your overall financial health. But also like not really because you can have a fantastic credit score but also be not necessarily positive on the balance sheet, you know, and things like that or at least moving in a positive direction. So we definitely look at this as a key piece of the financial plan and make sure that — and I really break it down into two pieces. You have your credit — you know, when we talk about credit, we have your credit score. And you have your credit report. And those are the things that we kind of break down and then we go into things like identity theft. But those are the two main pieces that we kind of work through.
Tim Ulbrich: Yeah, and I’m glad you said that, Tim, you know, that we shouldn’t confuse a good credit score with necessarily meaning that that’s — that you have a sound financial position or situation. Maybe that’s true.
Tim Baker: Yeah.
Tim Ulbrich: We hope that’s true. But you know, as we’ll talk about how credit scores are determined, you know, that may or may not connect with your net worth, that may or may not connect with your debt position, your asset position.
Tim Baker: Sure.
Tim Ulbrich: And I think I would encourage folks too, I’ve made plenty of financial mistakes. But one of the mistakes that I made related to credit is I underestimated the importance of credit based on my situation in the moment. So you know, I can think of several years ago right after we paid off our student loan debt where I really wasn’t worried about, you know, having a sound credit history. We did, but being able to continue to maintain that because I had really thought, hey, we’ve got no more debt, what’s really the need for credit going forward? We already purchased our home. But I think that speaks to a common situation that people may fall into similar to ours where you look at your financial situation for the future through the lens of what you’re doing today, right?
Tim Baker: Right.
Tim Ulbrich: And not think about what about a future home purchase? What about a real estate investment purchase? What about starting a business in the future? What about x, y, or z that may be important to be able to have that credit down the line? So thinking about where the future may go as well. So you mentioned, Tim, two important pieces here: credit report, credit score. So let’s jump into those both in more detail. And let’s talk about the credit report first. So where do you pull a credit report? What does it show? And why is it important to check it?
Tim Baker: Yeah, so I would say even before we get into that, I kind of want to back up and kind of just talk about like how really how the credit system works. So it really kind of starts with you and your behaviors. So where — how you’re getting credit, where you’re — so if we kind of walk through a scenario, let’s pretend, Tim, that you’re saying OK, hey, I want to buy a car. You’re going to go to the Honda dealership, the Toyota dealership, the Ford dealership or whatever, and say you don’t have the cash to pay. As most don’t. You’re going to basically put a note on the car. So the creditor, they’re going to say, “Hey, we’re going to lend you this $20,000. And every month, you’re going to pay this back with an interest rate.” So basically, your behavior of what you’re doing with Toyota or Honda or Visa or your student loans, your creditors are going to be reporting that back, you know, your payments, every month to these different reporting agencies. So the reporting agencies are Equifax, Transunion, Experian. And then these agencies are going to be taking all of that information that are sourced by the creditors and essentially they create these credit reports, which is just kind of a record of your — of kind of your payments based on what the creditors are telling them. And then from there, they create this credit score, which is basically a snapshot of your reliability or your likelihood that you’re going to pay your debts back on time. And then if we kind of bring this back full-circle, you then use your credit score to then apply for more credit. So it’s like this cyclical thing that happens with regard to the how credit works. Now, if we talked about the credit report first, the credit report, again, is a record sourced by the creditors of an individual’s different credit, you know, loan payments, etc. One of the misconceptions, it doesn’t show your credit score. So a lot of people — when I’ll ask clients, “Hey, have you run your credit report?” they assume that their credit score is there, and it’s not. So back in 2003, Congress passed the FACT Act, the Fair and Accurate Credit Transaction Act that gives free access to credit reports but not necessarily free access to your credit score. So every year, every 12 months, you can run a credit report from each of the three major credit reporting companies. Right now with the CARES Act, you can actually run this report weekly.
Tim Ulbrich: Yeah.
Tim Baker: Which is interesting. And sometimes needed, given what’s going on with some of the student loan services. We talked about that in the past. So to quickly break down the credit report, when you run your credit report — and you can do that at freeannualcreditreport.com I believe it is. Sorry, it’s annualcreditreport.com. So you can go there and you can see all the different credit reporting agencies and you can pick the one that you like. I like Transunion’s. It’s colorful, so they’re all essentially the same. But Transunion is kind of a prettier version. So you can pick Transunion. And I would say don’t run them all at the same time. Just run one. If you have a big discrepancy when we talk about credit score, then maybe run another one. So when you run your credit report, basically the things that you’re going to be looking at is kind of your pertinent information, so your name, maybe aliases, your birth date, your addresses. I joke that if I ever — so I’ve lived all over the country. If I ever forget like, OK, what was the address that I had in like southern California when I lived there, I look at Amazon and I look at my credit report because those are typically the best places for that. And then it might show like your occupation and things like that, but the bulk, the meat of the credit report is going to be your account information. So it’s going to show first any adverse accounts, so these are things that have like negative, like a negative report associated with that, so like a missed payment or something of that sort. And then all of your satisfactory accounts, so these are accounts in good standings with no blemishes at all. So that’s really kind of the — and you’ll see, like when you look at it, you’ll be like, oh yeah, I forgot about that account or this account’s been closed for five years but it’s still going to show on your credit report for a total of 10. So it’s kind of a little bit of a trip down memory lane, but it’s a good exercise to pull their credit report, to look at it. We do that on behalf of clients. But I even tell clients, like I’m not going to know if something looks kind of fishy or out of whack because, again, I wasn’t there. But I can kind of still look and provide feedback and overall advice on how to better improve the credit report.
Tim Ulbrich: Yeah, so again, annualcreditreport.com. You can do that once per year for free through each of the three agencies. Although as you mentioned here, in the CARES Act time period, you can do that more often. And we’d certainly challenge and encourage our listeners that have not done, I think it’s a great exercise, for the reasons that you mentioned, but also just another way that you can be engaged and involved in your financial plan as we talk about credit being an important part of the financial plan. So Tim, you talked about one misconception around credit, which is that your report does not include your score. Those are two different things. What are some other common misperceptions that you hear about credit that we can debunk right now before we go into talking about credit scores?
Tim Baker: Yeah, so some people think that like, oh, if I check my credit, it’s going to drop. And that’s not true at all. Like you know, the government actually wants you — like before, you had to pay for your credit report. Now, they’re giving you free access. Another big thing is closing — and some of this sounds like counterintuitive — but like closing an old account improves your credit score. And in fact, I actually just had this happen in one of mine. I had a very old credit card that I think I used when I was at West Point that eventually, it eventually like closed because I just stopped using it. And my age — so we’ll talk about different factors that affect your credit score — age of credit is going to be one of those. So that longstanding account that was open basically cut my age of credit in half, which lowered my credit score. So that’s another big one. You know, another thing is like, hey, if I have a missing payment on a credit card and I have a derogatory mark, if I basically get that back to where it’s good to go, then that comes off my credit. And that’s not true. Like I had a — I think it was back in 20 — and I actually show it on my credit report when I go through this with clients. Back in May of 2010, I went 30 days over — like I didn’t pay my credit card and it went 30 — once it hits 31 days, then it basically is a derogatory mark. That stayed on my credit report until May of 2017. So it can be — some of those things can be very long in terms of them coming off.
Tim Ulbrich: This was the old Tim Baker, right?
Tim Baker: Yeah, this was the old Tim Baker. I actually want to go back to my calendar and see what was going on. I’m pretty — and I kind of joke, you know, the two things that — and I wouldn’t say it’s just two things, but the two main things that my parents taught me about money growing up was don’t have credit card debt, like pay those off, and then like buy a house, that’s a good investment. And I obviously didn’t listen to that first one 100% of the time. So but that derogatory mark stayed on my credit report, you know, for seven years. So you know, this is where we talk about like autopayment and things like that. Like don’t — make sure that you’re — and for some people, some people, they’re like, ah, 30 days, they just throw up their hands. And then the next 30 days, that’s another derogatory mark. And then there goes the 90 day, that’s another. So you don’t want to let those cascade. And then probably another one is like being a cosigner doesn’t make you responsible for the account. That’s exactly what it does. So lenders like cosigners because it’s two different people that they could potentially revert back to if the credit goes — if the loan goes into default. So that’s exactly what that does. So that, you know, you’ve got to look at that from a some people are like, oh, yeah, well I’ll cosign for my brother’s car note or my kid’s or things like that. You’ve got to be wary of that because at the end of the day, you want to protect yourself — you want to help loved ones, but you also want to protect yourself in terms of your credit. And probably the last one that, you know, you hear is like, well, if I pay off this debt, my credit is going to be boost by 50, 100 points. And it’s not — there’s just so many different — it’s not a linear relationship. There’s so many different factors that go into your credit score that it’s going to depend on a variety of things of how your credit score is going to move.
Tim Ulbrich: Yeah, and I think that last point’s a good segway into what is a credit score and what makes that up so you can have an understanding how any one decision may or may not move the needle very much based on the components and the percentage that they make up of that overall score. So give us the broad definition of a credit score.
Tim Baker: Yeah, so the credit score is really a number that summarizes your credit risk based on a snapshot of your credit report at a particular point in time. It’s really the picture of your ability to pay back a loan over really the next two or three years. So the higher your credit score, the more likely you’ll be able to pay back the loan and on time. And really, the credit score matters because it affects whether you can get credit and what you pay for credit, meaning if you have a higher credit score, then you can potentially get better rates. A higher score, you know, will more than likely be more chance of approval for that credit. It can affect your ability to rent an apartment. Sometimes it affects your ability for your deposit on a telephone, a utility, that type of thing. And a lot of employers will run credit scores just as kind of a measure of your dependability. So it can have far-reaching effects. So you know, if we look at kind of the different bands on credit — so like some people will say, oh, like my credit score is only 760. Like that’s a really good — in essence, that’s an excellent credit score. So anything about 750 is excellent. Good is kind of the 700-749. Fair is 650 to basically 699. And it goes all the way down to poor then bad credit. So this is a really, really important score. And if you look at it from the — I try to look at it from both sides of it. So you look at it from the lender’s perspective, you know, when, you know — and we talk about this like, we kind of talk about this with like interviewing like candidates and things like that, you’re trying to really get a good snapshot of this person and by answering a series of questions or something like that. And from a credit granting decision, the lender is really trying to get a good snapshot of how hey, if we, you know, if we’re going to take risks to lend you this $300,000 for a home, we want a good feel that you’re going to be able to pay this back and on time. And from their perspective, they’re using that as a way to, you know, sum up your dependability.
Tim Ulbrich: Yeah, and I don’t want to brush over — you mentioned it — but not only impacting your ability to get credit but what you pay for that credit. I think that’s so incredibly important when you talk about big purchases like a home. And we talked about this in Episode 159 with the refi and, you know, what is the difference of a point or point and a half? And that can be due to credit and how attractive you are as a lendee. But obviously that has significant impacts on your monthly budget as well as over the life of the loan, student loan refi, car buying, the list really goes on and on, real estate investing and so forth.
Tim Baker: Yep.
Tim Ulbrich: So you mentioned the number and the ranges that we see in a credit score. We talked a little bit about why it matters, what it can impact, the various parts of your plan. Talk to us about the new FICO credit score effective January 2020.
Tim Baker: Yeah, so they’re trying to like tweak the system a bit to kind of make it more of a reflection of like a borrower’s behavior. So one of the things that they changed at the beginning of the year — and FICO is the biggest credit score out there. I think Vantage is the next one. But FICO’s the big one on the block. They’re trying to tweak their algorithms, so they’re going to judge more harshly those who fall behind on payments. And what they’re trying to do is give more weight to people that are basically improving their credit situation. So they’re looking at more like trended data. So the example I’ll give is let’s pretend that you have $40,000 in credit card debt, and we work with clients that have $40,000 in credit card debt. And let’s pretend that over the year, the first year that we’re working with them, that $40,000 moves to $20,000 as an example. And then we basically compare that to another client that we’re working with that just basically has we’ll say $5,000 in credit but at the end of the first year, they still have $5,000 in credit balances that they’re carrying. The first client would actually be, you know, graded out a little bit better because they’ve gone from $40,000 and their trended data says they’re moving in the right direction in terms of paying off their credit whereas the other client, which we’re kind of just saying they’re treading water, their balances are the same, would be graded more harshly. So today, that second client, that $5,000 is — before we made the changes would have a better credit rating whereas the one that’s trending in the right direction now is they’re giving more consideration to that, which is good. I think the other thing that they were looking at changing is to kind of — you can play a little bit of a smoke-and-mirrors game with credit. So if I had $40,000 in credit card debt and I moved that to an unsecured personal loan, that actually helped my credit score out quite a bit. So now, for those types of loans where you’re kind of just shifting it from a credit card debt to a personal loan, it’s still graded similar to how like a credit card would be. So they’re recognizing that there’s a lot of people that will consolidate credit card debt into other types of debt. And they don’t — they want to make sure that they’re capturing that data accordingly.
Tim Ulbrich: Sure.
Tim Baker: So they’re going to continue to — it’s not a perfect system at all. But you know, they’re trying different ways to make sure that they’re capturing overall behavior and where a particular borrower is trending with regard to their credit decisions.
Tim Ulbrich: Yeah, and I think that makes sense in terms of the trends and, you know — I think about this in terms of like when we admit student into the PharmD program, you’re looking at the whole picture, but often the best indicator of their success going forward is the most recent behavior. So you know, if you see somebody really struggled academically in their first or second year of undergrad but they’ve significantly improved in their third and fourth year, obviously that’s an indicator of where they’re going to go, even though overall, they may not be as competitive as some students who did average throughout. So let’s talk about a credit score and how it’s calculated. So how is a credit score calculated? What factors are considered in this calculation? And what’s considered high impact versus lower impact?
Tim Baker: Yeah, so there’s really six different factors that kind of go into your credit score. So we’ll start with the high impact ones. So really, there’s high impact ones. The first one is credit card utilization. So the credit card utilization is — it’s basically the amount of credit that you’re carrying month-to-month. So if we say that — and really, this is a high-impact factor. The lower the utilization, the better. So lenders like to see that you’re not using too much of your available credit. So the more you use, the harder it is to pay off. So the idea is to keep the balances low. So the example I give is let’s pretend that you have a line of credit on your credit cards of $10,000. So if you’re carrying $3,000 worth of credit card balances every month, then your utilization is basically 30%. And that, you’d be right in the middle of the pack. That’s kind of a fair credit utilization rate. So the idea here is that to be excellent, you want to have basically under 10%. So in that case, the borrower, if they want to have an excellent credit card utilization, it would be carrying $1,000 or less. Now obviously we’re big believers in just paying off the credit card every month. But that’s a big one is that lenders like to see that you have a little bit of rope but you’re not using all of it. The second one is kind of the payment history. So lenders look at this factor to determine how likely you’ll make future payments on time. So that’s like not being like me and making sure that 100% of the time you’re paying your debts back and on time. So you want to be aware of lateness, you want to set up things like automatic bill pay, those types of things and not let those latenesses cascade. And for you to be excellent, you really want to be 100% effective. Good is 99%, fair is 98%. And you’re going to say, “Wow, Tim, that’s like, that’s really tough.” But if you think about it, you know, think about like if you were to pay off a student debt, like let’s pretend you refinanced your loans a couple years ago and you made your last payment in July of 2020. Those payments and that account is going to stay on your credit report for 10 years. So it’s not going to come off until July of 2030. So if you add up all of these different accounts and all of these monthly transactions, like the denominator is very large. So you know, even if you do make — miss a payment, you’re still going to be in that high 90s. Probably the last high-impact factor is derogatory marks. These are basically the result of things like a late payment or if you go to collections or have a bankruptcy. The derogatory marks are going to be anything that’s adverse that a creditor is going to want to know. So this is high impact. The lower, the better. And again, these are where you want to make sure that you’re keeping all of your accounts in good standing and they’re not basically moving from an account in good standing to an adverse account. The other ones are going to be — so the age of credit is more of a medium impact. So the higher or the longer, the better. So they’re looking at really 9+ years. So this is where some people, some younger clients get penalized. I actually had a client that was — I think she was 28. And her age of credit was like 38 years old, or 38 years. And I was like, what’s going? And I think her parents put her on like a Conoco gas card as like a user or whatever. And that like really helped her credit history. So lenders like to see that really it’s not your first rodeo, you have experience using credit. So you can improve your age of credit by keeping accounts open and in good standing. The next one is total accounts. So I thought this was — like when I was learning about credit way back in the day, I thought this was a little bit of counterintuitive. Actually, the total accounts, higher is better. So lenders like to see that you’re using various accounts. So it could be installment accounts, so loans paid in fixed increments over a period of time. So take like a car loan, a student loan, a mortgage. It could be revolving credit, so credit lines that have variable payments. So think of like a credit card, an open credit line, which could be things that are balances that need to be paid every month. So think of like a utility or a cell phone bill. So it suggests that — it’s kind of a little bit of the herd mentality. It suggests that other lenders have trusted you before, so we can trust you as well. So they like to see, you know, lots of different — and for you to be in the upper echelon here, excellent is like 21 accounts or more. And you’re thinking like, wow, that’s a lot. For pharmacists, this is typically a piece of cake because everytime your loans are disbursed, so think like per semester, that’s an account. So pharmacists usually have a really easy time of getting this, even if they don’t have credit cards or things like that, they typically have a lot of accounts listed on their credit report.
Tim Ulbrich: Unfortunately.
Tim Baker: Yeah, unfortunately. And then finally, the last one. And this is a lower utilization as like a hard inquiry. So this is lower is better. This results in applying for credit. So the idea here is that they don’t want people that necessarily don’t have great credit to kind of be fishing for credit like all over town, essentially. So you’re applying for credit and you’re just trying to find somebody to lend you money. So instead of — and that’s kind of like a shotgun blast. You take a sniper approach. So like if you’re going to buy a car, you’re going to narrow it down to the dealership or two that you’re looking at and apply for credit there instead of like just going everywhere. So these hard inquiries stay on your report for two years. I feel like I have a bunch of these from refinancing my house. I switched from Sprint or Verizon, they check your credit there. So ways to kind of get around this is you can take advantage of like preapproved credit cards where they’ve already kind of pulled your credit. If you use that car buying example, you know, if you say, hey, you apply for credit at Ford, Toyota, Chevy, etc., if they’re within a relatively short period of time, like I think it’s like a week or two, they group all of — it might be like three or four inquiries they’ll group together as one. But excellent is that 0-1. I think for right now on one of my credit reports, I have like three or four. And again, my credit is in the 800s, so it’s not a big, big thing. But it is something that they want to kind of keep tabs on because they don’t want people just fishing for credit. So those are really the different factors that kind of go into your credit score.
Tim Ulbrich: So before we talk about hard v. soft pull — because I think that’s an important distinction that many of our listeners would be interested in — I want to go back to that first one: credit card utilization because I think this is one where people might be surprised by that number of less than 10% or even try to get below 30%. So I imagine there is many people out there that might have, you know, one major credit card that they use, all their monthly expenses go on there, so they’re putting $4,000, $5,000, $6,000 and they’re obviously above that threshold. So what’s the play here? Is it trying to get that limit increased? Is it having multiple cards to diversify those expenses? What do you typically advise or work with clients here?
Tim Baker: Yeah. So you know, it’s something that I think you have to kind of tread carefully. And I kind of — depending on the client that I’m working with and the situation that we’re in, I’ll advise them accordingly. So you know, one of the ways to kind of game the system is if you say, hey, I have $2,000 worth of purchases of balances that I’m carrying, and I’m in a $10,000 limit. You’re in the 20%, which is not necessarily excellent. So one of the things that you could potentially do is ask for a credit increase, a credit line increase. So again, you’re increasing that denominator that kind of gets you — if you go from $10,000 to $20,000, that gets you kind of in that excellent band. I’ve done that in the past — or I’ve suggested that to clients in the past, and it’s worked, especially clients that are trying to get into like from like a 740, 745 credit score to a 750 and they’re like on the verge of buying a house. But if I also know that that client struggles with credit card debt, like I wouldn’t necessarily suggest that because now we’re just giving them a bigger chasm to kind of tumble into. So there are ways to kind of game the system. I think again, FICO and Vantage, they’re trying to kind of figure out ways to kind of, you know, get around that. But the utilization is still very, very important. If you’re maxing out your cards all the time, lenders want to know that. So yeah, I mean, I think it depends so much — like everything, it kind of depends on the situation and the person that we’re working with. But there are ways to kind of, I kind of say game the system because, again, you’re not really changing anything about your own behavior. You’re just kind of changing the numbers and the calculation and getting a little bit of a better score. So it’s going to depend on the situation. But I would imagine that they’re going to — you know, and I’ve also had clients that I’ve suggested that to that come back and they’re like, and actually the creditors push back on that. So it’s not — it used to be that — and in some cases, it still is — it’s like, yeah, no problem. If you want to spend more money, we’ll definitely collect the interest. But I think they’re trying to find ways to kind of make that a little bit harder so that they know that it’s not just for kind of gaming the system.
Tim Ulbrich: Yeah. So hard and soft pull on your credits. What’s the difference? And give us an example.
Tim Baker: Yeah, so typically I think for all three of the credit reports, at the end you’ll see kind of your soft pulls. So you’ll see like, hey, I’ve never done any type of business with like Discover card, but you’ll see them on your credit report.
Tim Ulbrich: Yeah.
Tim Baker: And what they’re doing — kind of think of it as like marketing. So they’re paying the reporting agencies to basically say, OK, show me the people that have a score from 700-750 or whatever. And they’re basically looking at your credit and devising a marketing strategy or deals for you to potentially — so that’s why you might get a mailer from Discover because they prequalified you for a deal. A hard inquiry is performed when you actually apply for a loan like a credit card, a mortgage, and the lender checks your credit history before granting or denying the loan. So these are the ones that basically stay on your report for two years whereas the soft ones, they don’t really have — they’re recorded, but they don’t really have any sway on your credit history at all. And it’s kind of something that’s good to review, but they’re not really, they’re not really going to move the needle in terms of — so like when you go to refinance your loans, to get a quote, they might do a soft pull on your credit. And it’s not going to affect anything, but then actually when you go to apply, they’ll do a hard pull. And that results in a hard inquiry, which will then be on your credit report for two years and it could potentially tick your credit down for, you know, a little bit. Like I said, it’s not going to move the needle much. But those are the big differences between the soft is kind of like where you’re just checking things out. The hard is where you’re basically signing papers for a particular loan.
Tim Ulbrich: Yeah, and student loan refi is a good example. I think for our audience, that may hit home where they’re initially trying to gather rates across multiple companies in terms of soft pull, but then they ultimately move forward with one in terms of that full application, signing papers, and that’s where that hard inquiry would come from.
Tim Baker: Yep.
Tim Ulbrich: So let’s wrap up by talking about identity theft. What should somebody do if they find out that their information has been compromised or that someone has stolen their identity, is making charges out of their accounts or perhaps some listening want to be proactive and try to protect their identity and information? What advice would you have there?
Tim Baker: Yeah. So I don’t — I think this is kind of, I think in kind of the world that we live in, it’s not necessarily a question of if, you know, your identity is going to be stolen. It’s really a question of when, unfortunately. So I want to say, I don’t know, every other month, once a quarter, a client will say, my identity’s been stolen, what should I do? And you know, we typically kind of go through, like we obviously contact that creditor and we shut it down. You want to run a credit report, you want to dispute. And a lot of banks, like I’ll get alerts and things like that. They’re like, ‘Hey, is this yours?’ and I’m like no. So a lot of the banks have mechanisms in place to kind of protect you. But it also kind of gives you a little bit of a false sense of security too. So you want to make sure that you’re checking your reports regularly. And I tell clients, I try to do mine personally like when the clocks change. So when they fall back and they spring forward, like when you change the batteries in your smoke alarms. So I think it’s a good practice. And one of the times I checked mine — I want to say this was maybe five years ago — I checked my credit report, and it wasn’t necessarily identity theft, but there was a credit card that I shared with an ex long ago that just popped up on my report. And it affected my credit a lot, so I went in and I disputed it. You can go on to whatever, Experian, Equifax, Transunion and dispute those online. And then that basically puts the onus back on the creditor to basically say that this is a legit thing. And it was cleared from my credit report pretty quickly. So probably the biggest thing, though, outside of kind of being aware of your report and your score is looking at either like a credit freeze or credit lock. And they’re going to be very, very similar. But there’s slight differences. So both are ways to protect your credit reports from being used by scammers to open up new accounts or file your taxes with your social security number. They’re often — these are often used interchangeably. They are similar, but there’s slight differences. So the freeze, you can freeze your credit at each of the three credit reporting bureaus. It essentially restricts access to your credit report. And lenders can’t see your information until you unfreeze it. So it’s really a good protection against fraud. And unfreezing could require your name, social, a password, maybe even a pin. And this is going to be free by federal law. Federal law requires free credit freezes and unfreezes. The lock is where you restrict most lenders’ access, and you can lock your credit report immediately at any time. And sometimes there’s — I don’t think right now because of COVID, but some of these — this is like a charge, so there’s a monthly fee that you pay to a credit bureau. Again, it’s a preventative measure to prevent scammers. But this is not governed by federal law. So under the freeze, you’re kind of protected; under the lock, not necessarily. So I would always kind of revert to the freeze. You know, freezing your credit when I’ve done it — and if you’re not making any credit granting decisions, you’re not buying a house, a car, refinancing anything, it probably makes sense to go through and freeze your credit. It probably takes about 3-5 minutes each for each of the — and then to freeze it and then call it a day. So you’re going to need things like your identifying information, your name, address, birthdate, social. You might be able to — you might be required to basically set up a pin for that. So that’s going to be very, very important to protect. But this is going to prevent people from basically opening up fraudulent accounts in your name. And then when you go to make a credit granting decision, you just unfreeze it. So it’s kind of just a good defense rather than just keeping it unfrozen and open all the time. And believe it or not, this happens — I’m sure many people listening are like, yeah, that’s definitely happened to me. I’ve had this situation. And it’s typically not until you kind of talk to me about this or you have a big loss that you’re like, yeah, I’m keeping it frozen because it’s just not worth the time and the hassle to kind of go through mitigating losses or just the hassle of an identity theft event.
Tim Ulbrich: Great stuff, Tim Baker, as well. A topic that has been long overdue for us to talk about on the show. Three years in, we finally got to it. But I think this episode is a great reminder of the comprehensive nature of the financial plan. And we talk about this over and over again because it’s so, so important that when you’re working one-on-one with a financial planner, it’s not just about debt, it’s not just about investments, it’s not about any one given part of the financial plan. You have to look at really the whole spectrum. We say comprehensive means anything that has a dollar sign on it, we want to be involved with. And I think this is a great example where credit can transcend so many parts of the financial plan. It really speaks to the power of having a financial planner in your corner. So for those that are interested in working with YFP for comprehensive financial planning, make sure you head on over to YFPPlanning.com, where you can book a free discovery call. And as a reminder, show notes for this episode and every other show that we do, you can get access by going to YourFinancialPharmacist.com/podcast and finding the episode and getting the resources and information that we covered on that show. And please don’t forget to join our Facebook group. Over 6,000 members strong, pharmacy professionals committed to helping one another. And last but not least, if you liked what you heard on this week’s episode of the Your Financial Pharmacist podcast, please leave us a rating and review on Apple podcasts or wherever you listen to your podcasts each and every week. Have a great rest of your day.
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