Several numbers are important to prospective home buyers. One is the amount you’ve set aside for a down payment; another is the amount you can comfortably afford for a monthly mortgage payment. But possibly the most important number is your credit score.
What IS a credit score? It’s a numerical representation of your credit history. It reflects your track record of paying bills on time and how much debt you carry. It is used in an effort to gauge the risk of lending you money.
A perfect score is 850, and I’m not sure if anyone ever attains that number. All scores above 760 are considered excellent, while scores from 700 to 759 are classified is good. Fair credit means a score of 650 to 699, and below 650 is considered poor.
Those with excellent scores are considered the least risk and are eligible for the lowest possible mortgage interest rates. Why? Because the lenders want this business! Those with “good” scores can still get low rates, but not the lowest rates. Borrowers with “fair” scores will pay even more, while those with “poor” scores will have to jump through any number of hoops just to get a loan at all. Of course, their loans will be at the highest rates.
Your credit score is determined from three scores, one from each of the three major credit reporting companies: Experien, Equifax, and TransUnion. The three can be slightly different depending upon who reports to them, and what they track. Many lenders look at the middle score as representative.
How are scores determined, and what affects them?
35% of your credit score is based on your payment history. Even if you’ve paid all of your bills on time for your entire adult life, one 30-day late payment can drop your score by as much as 110 points.
30% is based on your credit utilization, and this is an area that gets some people into trouble. Holding a false believe that you should only have as much credit as you need to use can drop your scores dramatically. For the best scores, you should have far more credit than you need and use. In fact, you should use only 30% or less of the credit available to you from each source.
What does that mean? Don’t cancel an old credit card just because you no longer use it. Instead, use it once in a while and pay the bill in full when it arrives.
There’s a second reason for that:
15% of your credit score is based on the length of your credit history. If you’ve held the same credit card or cards for twenty years, that’s a very positive thing. The same is true for any account that reports to the credit bureaus.
10% of your score is based on your “credit mix.” Your credit score is enhanced by having a mixture of different kinds of credit accounts, such as a vehicle loan, retail accounts, credit cards, and a mortgage. Apparently, having different kinds of credit and making those payments regularly signifies that you’re a good money manager.
10% is based on new credit. This is a number that can be a negative. Lenders look unfavorably on a borrower who has opened several new accounts in the months prior to making a home loan application. This signifies that you “might” be borrowing from (or planning to borrow from) your credit card in order to make your down payment.
Don’t apply for new credit if you’re planning to buy a home. That 10 or 15% you could get off on today’s purchases at a retail outlet could end up costing you thousands of dollars in higher mortgage interest rates.
Don’t even let a retailer check your credit, as this could indicate that you purchased some form of a credit application filing service. The safest thing at this point: Do NOT disclose your Social Security number to anyone until you’re ready to apply for a mortgage.
Check your credit score when you first consider buying a home.
Why?For three reasons:
When you know your credit scores and what is affect them, you can take steps to raise them before you make your mortgage loan application. For instance, you can transfer part of a balance from one credit card to another in order to bring all of your ratios under 30% usage. You can also pay down some accounts. These changes take time, so get started early.
Secondly: Because 25% of all credit reports contain mistakes, and correcting them can take time.
Mistakes can happen easily when creditors are reporting. You might have the same name as someone who is habitually late with payments and it can get accidentally reported to your account. The data entry person might transpose numbers when entering a social security number, or hit the 5 when they meant 6.
Lastly, you could have fallen prey to identity theft without knowing it. Someone else could be using your good credit to obtain a job, rent a house, set up cell service, or borrow money. So check to see that every account is yours – and that you don’t have a new address or new spouse!
Get your free credit report from creditscorequick.com and read it carefully. If you find errors, go to a credit bureau web page and follow instructions for reporting errors. If you report to one, they’ll report to the others. Of course, if you find identity theft you should also contact the authorities immediately.
Even if you’re not thinking of buying a home, it’s a good idea to check your credit annually, just to make sure there are no errors.
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