Why Are Credit Checks Important?

When a business conducts a credit check, it files a request with the credit bureaus for a copy of your credit report. Your credit report contains evidence of your financial behavior, such as your payment history with each of your creditors and the different accounts you hold or held in the past, along with personal information about you. For many companies, such as credit card providers and mortgage lenders, credit inquiries are a routine part of doing business with the public.

Risk Assessment

A credit check's primary purpose is to serve as a risk assessment tool. Lenders determine how likely you are to pay your debt on time by reviewing how often you have made timely payments to other creditors in the past. Checking your credit report also allows lenders to provide you with an appropriate interest rate based on your risk level. According to the Fair Credit Reporting Act, only businesses with a legitimate financial purpose or your express permission have the legal right to check your credit.

Lenders are not the only ones who review your credit history when evaluating the risk of doing business with you. A potential landlord could check your credit report for evictions, while an employer may review your credit history for evidence of high debt -- since carrying high debts makes you a greater theft risk to the company.

Information Verification

In addition to assessing your risk level, businesses use your credit report as a tool to verify information you previously provided in an application. Companies check your Social Security number, birth date, address and any other identifying information within your credit file, such as your employer or any aliases you may have, to ensure that they are conducting business with the right person and that the information you provided is accurate.

Locate Debtors

Credit checks are crucial to companies collecting debts because they serve as a tool to locate debtors. Whenever you update your address with a creditor, your creditor reports the updated address to the credit bureaus when making its regular reports. Because consumers are unlikely to update their addresses with unpaid creditors, this gives debt collectors a method of locating debtors to pursue collection activity.

Identify Theft

In 2003, the Fair and Accurate Credit Transactions Act amended the FCRA to help victims of identity theft to clear up their damaged credit. One notable feature of the FACTA is that it gives all consumers the right to check their own credit reports once each year for free. Checking your credit report helps you identify entries that you do not recognize. By checking your own credit, you can identify incidents of identity theft early and combat the problem as quickly as possible.