What Is Rate Shopping, and How to Do It Right

A couple sitting at a desk and going over paperwork with a bank representative.

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Some people are born shoppers who enjoy nothing more than the thrill of the hunt. Others loathe shopping, and searching for a deal feels like a colossal waste of time. Regardless of which camp you fall into, rate shopping is an essential part of taking out a loan, one that can ultimately save you tens of thousands of dollars.

What is rate shopping?

Rate shopping, as the name implies, is the practice of checking different lenders when you need to borrow money. Whether you're planning to take out a loan or apply for a mortgage, the trick is to make sure you're comparing like with like. By shopping around, you can work out which lender best meets your needs.

How rate shopping works

Let's say you're buying a home. Your real estate agent recommends you call their lender. You do, but you're curious about whether there are better deals available and terms and decide to compare the rates and terms of several lenders. That's rate shopping and it applies to all types of lending.

Some people are concerned that rate shopping will hurt their credit score. It is a valid concern because your score will take a small hit if a lender carries out a hard credit check. But there are two things to bear in mind. The first is that some lenders only need a soft credit check to give you a ballpark rate. You'll see this, for example, with a number of personal loans. They'll do a hard pull later before actually approving your loan. 

The second is that both FICO and VantageScore -- the two most common credit scoring systems -- realize that shoppers look for the best rate before taking on a loan. That's why they give you a window of time, ranging from 14 to 45 days, to rate shop. During this window, all hard credit checks for the same type of loan count as one single inquiry.

The rate shopping window is so wide because different scoring models allow for different time limits. Since you don't know which model your potential lender will use, aim to get your shopping done within 14 days to be on the safe side. 

The degree to which a hard check will ding your credit score depends on your credit history. According to FICO, a hard inquiry will reduce the average consumer's credit score by less than five points. 

Rate shopping tips

Whatever type of loan you are applying for, it makes sense to lay the groundwork first.

Prepare to rate shop

Order a copy of your credit report and check it for accuracy. If you see any mistakes, such as an account that does not belong to you, you can file a dispute. The condition of your credit report is essential because the higher your credit score, the lower the interest rate you will be offered. If your credit is low, see if there are steps you can take to increase your score.

Gather your documents. Lenders will ask to see proof of income and assets. They will also want to know who you owe money to and how much you owe. Have recent pay stubs, bank statements, and tax returns for the past three years available.

Compare apples to apples

If you find the assortment of percentage rates, fees, and numbers dizzying, you're not alone. From the outside, rate shopping can seem confusing. It's not, though. Follow the next three steps, and you will be on the road to the best loan possible.

  1. Request quotes from at least five lenders, including your personal bank or credit union. You can always check more than five lenders, as long as it's within the recommended 14-day window.
  2. Forget about the interest rates and focus on APR. APR stands for annual percentage rate, and it's the amount you will pay, including interest, origination fees, discount points, and any other fees a lender charges to finance the loan. 
  3. Check available repayment options. For example, the number of months you have to repay a personal loan typically ranges from 12 to 72 months. You may be able to get a lower monthly payment by stretching the loan over a longer term, but this will also mean you pay more in total. Look at available repayment options for each loan side-by-side in order to determine which one best suits your needs. 

Once you've decided on the best loan for you, do not make any significant life changes until you've finalized the deal. Don't change jobs, take out new debt, or go on a shopping spree. Lenders typically do one final check of your credit shortly before closing, and if your credit score or income level have fallen, it might withdraw the offer or require you to pay a higher APR. 

The benefit of rate shopping

Taking the time to find the best APR can save real money, funds that may allow you to build a more significant emergency fund, invest for retirement, or even start your own business. Let's return to the home-buying example, and imagine the following:

Scenario A: You took your real estate agent's advice and used the lender he or she suggested. You take out a $250,000 mortgage for 30 years. The lender offers an APR of 5.99%, including origination fees, broker fees, and other miscellaneous charges. Your monthly principal and interest payments are $1,497, and you will pay a total of $288,920 in interest over the life of the loan. 

Scenario B: You rate shop and find a lender offering an APR of 5.25%. While the APR does not seem dramatically different, you run the numbers and learn that your monthly payment will be $1,381, and you will pay $247,160 in interest over the life of the loan with the same 20% down payment and 30-year term. Rate shopping just saved you $116 per month and a total of $41,760 in interest. 

Rate shopping is the best way to separate legitimate interest rates from promotional garbage. Whether you're looking for a mortgage, personal loan, auto loan, or new credit card, rate shopping ensures that you have done everything you can to get the best deal. Even if you genuinely dislike shopping, looking out for yourself is just smart. 

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The Motley Fool owns and recommends MasterCard and Visa, and recommends American Express. We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.

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