Get Your Credit Mortgage Ready!
Just as a new year prompts some people to get into shape, house hunting can inspire others to pump up their credit score. But working to improve your credit is always beneficial regardless of the time of year, because a better credit score can lead to lower mortgage rates and better loan offers.
So what does improving your credit really look like?
The three credit reporting bureaus (Equifax®, Experian™ and TransUnion®) look at numerous factors to gauge your credit worthiness and calculate your score: payment history, current debt, how long you’ve been maintaining credit, how many account types you have, recent credit activity, etc. If you overextend your credit or have a spotty track record of making on-time payments to a lender, that could decrease your score and how much money a lender is willing to loan you.
Your credit score, sometimes called a FICO score, is a numerical value that reflects how likely you are to repay your loan. Your score doesn’t have to be perfect, and different lenders have different standards. However, when it comes to a mortgage, the minimum credit score for a conventional mortgage is usually 620, and a good credit score typically falls between the 670 – 739 range. Credit scores ranging from 740 – 799 are considered “very good” and scores of 800 and above are viewed by lenders as “exceptional.”
Here are specific steps you can take to improve your credit score so that you’re in the best possible shape when you submit a home loan application.
1. Check your credit report
First things first: check your credit report. You’ve probably heard this many times, but there’s a reason why it’s the first step. A credit check helps you level set, and credit reports may contain inaccurate information. Reviewing your report to confirm there are no errors can increase your score and ultimately save you money – better scores typically mean better rates.
Obtaining your credit report is easy. Per Federal law, you are entitled to a free credit report every year from the three aforementioned agencies. Go to AnnualCreditReport.com and make the request. If you find an error, such as an account being reported as open when it’s closed, get in touch with the appropriate credit bureau, as well as the company that provided the inaccurate information. They’ll investigate and will correct the error, if needed, potentially raising your score.
2. Pay down existing debt and don’t incur new debt
It may sound daunting, but if you make regular, on-time payments, you’ll start to chip away at bad credit. Set aside extra money beyond your monthly payment to go toward revolving debt; even a small amount is better than none. Use part of your tax return or a bonus to pay off debt faster. Set up automatic payments if you can, so you’re not tempted to skip. And before you apply, or even during a mortgage approval process, do not take on any new debt. This means that you shouldn’t even apply for new credit cards or a car loan, as doing so creates credit inquiries that can affect your score.
All of these steps work to reduce your debt-to-income ratio – the total of your monthly debt payments divided by your monthly gross income. The higher your ratio, the bigger risk you are to a mortgage lender because you’re less likely to be able to pay your monthly mortgage bill. So paying down debt and paying off any outstanding collections will be beneficial in the long run; it lessens other payments you have beyond your monthly mortgage, and it makes your lender more comfortable in your ability to make loan payments.
3. Don’t overutilize your credit
Keep your credit card balances low, no matter how high your credit limit. A good rule of thumb is to keep your credit utilization ratio under 30%. For instance, if you have a credit card with a $1500 limit, you wouldn’t want to spend more than $450 at any given time. If you can afford to pay off your credit cards in full every month, do so. That can help boost your score and help lenders see you as a financially responsible borrower.
4. Build credit history
Steering clear of new debt is important, but there’s a caveat. If you have no credit or a limited credit history, you’ll want to change that. Building a credit history is important if you plan on purchasing a home with a mortgage. The older your credit history, the better, so start building. Secured credit cards and small personal loans are good starting places for younger or future, first-time homebuyers. And if you have credit card accounts you don’t regularly use, keep them open versus just closing them. Keeping an open line of credit that is underutilized can make your credit utilization look better in the eyes of a lender.
5. Partner up
If you’re unable to bring your score up into a good, very good or better range before filling out a mortgage application, consider a co-signer with a good credit score. Typically, this would be a family member. You can also ask family members to add you to their credit account(s) as an authorized user which can help improve your credit score in advance of applying for a mortgage. No need to use the accounts; just make sure your family member(s) is making on-time payments and has a clean payment history.
6. Consolidate debt
Consider taking out a debt consolidation loan, which can combine your debts into one single monthly payment. This is helpful for those struggling to keep up with numerous lines of credit. Keep in mind, however, that applying for a debt consolidation loan will result in a hard inquiry on your credit report, which can drop your score a bit.
7. Consider credit counseling
It never hurts to seek help from professionals, and a credit counseling agency is no exception. They can help you with bringing down debt and navigating credit challenges. Make sure the agency is transparent about what they offer and what they charge (in other words, don’t pay them excessive fees to help reduce your debt).
As you take these positive steps you’re likely to start wondering how soon you can expect to see that higher score. The answer depends. If there are errors on your credit reports you can get corrected, your score may improve once corrections are made. If you can quickly pay down your debt, or build a solid credit history if you didn’t have one, your score can rise in a few months. But if you’re dealing with more serious issues such as a past bankruptcy or foreclosure, you’ll need to be patient and expect to work on your credit score for a few years to improve the score and reduce the perceived risks to the lender.
While there’s no one-size-fits-all solution for credit issues, making the effort to improve your credit score is never time wasted. By taking even small steps, you’re putting yourself on the right track toward the homebuying process. And if you want additional information about credit scores, mortgage rates, or anything in between, reach out to one of AmeriSave’s loan experts.