To buy a home, you need to apply for a mortgage. But before you do that, you should know how important your credit score is in the mortgage application process since it can significantly impact the mortgage rate you’ll be offered.
In this blog, we break down the relationship between credit scores and mortgage rates to help you understand what to expect and how to prepare to buy a home.
What Are Credit Scores?
Credit scores represent how creditworthy a person is based on their credit history. Ranging from 300 to 850, these scores are influenced by payment history, credit utilization, length of credit history, types of credit used, and recent credit inquiries.
Lenders use credit scores to determine whether to approve a loan and to set interest rates.
How Does Your Credit Score Affect Your Mortgage Rate?
Your credit score determines your mortgage interest rate. Higher scores mean lower rates, while lower scores can lead to higher rates or stricter loan terms.
For example, a score of 760+ may get 2.5%, while 620 might get 4.5%. Maintaining good credit is crucial for a lower rate and saving money.
How to Check Your Credit Score
Checking your credit score is crucial before applying for a mortgage, as it can impact the mortgage rate you qualify for. Although credit reports detail your account information and payment history, they don’t usually contain your credit score.
You can obtain 3-bureau credit reports and scores through IdentityIQ. When you sign up with IdentityIQ, you also gain access to real-time credit monitoring services that help safeguard you against identity theft.
What’s a Good Credit Score to Buy a House?
A good credit score to buy a house typically depends on the lender and the type of mortgage loan you’re seeking. Generally, a higher credit score will improve your chances of qualifying for a mortgage loan and getting more favorable terms, such as a lower interest rate.
What Credit Score Do You Need to Qualify for a Mortgage?
You should have a credit score of 620 or higher when applying for a conventional loan.
For example, if your credit score is 760 or above, you might qualify for a mortgage interest rate of 2.5%. However, if your credit score is below 620, lenders may either deny your loan application or be required to offer you a higher interest rate, resulting in higher monthly payments.
Conventional Loans
Conventional loans are mortgage loans without government guarantees. Most lenders require a minimum credit score of 620, but a higher credit score can help approval chances and interest rates.
FHA Loans
An FHA loan is a mortgage insured by the FHA, designed to make homeownership more accessible to first-time homebuyers or those with lower down payment capabilities and a credit score of 580 or higher.
It requires a minimum down payment of 3.5%, but borrowers must pay upfront and ongoing mortgage insurance premiums.
VA Loans
VA loans are mortgage loans available to eligible veterans and active-duty service members, backed by the Department of Veterans Affairs.
One of the main advantages of VA loans is that they don’t require a minimum credit score or a down payment, and they typically have lower interest rates and no private mortgage insurance (PMI) requirement. However, borrowers may have to pay a one-time VA funding fee.
Jumbo Loans
Jumbo loans are home loans that exceed the conforming loan limits set by the Federal Housing Finance Agency. Due to their larger size and higher risk, they typically require a larger down payment, higher credit scores, and stricter underwriting requirements than conforming loans.
Factors That Determine Your Mortgage Rate
Several factors can influence your mortgage rate, including:
- Credit score
- Down payment amount
- Loan term
- Loan amount
- Property location and type
- Type of interest rate (fixed or adjustable)
- Debt-to-income ratio
- Employment history and income
- Economic conditions and inflation rates.
These factors are considered by lenders when determining the borrower’s risk level and the corresponding interest rate. Borrowers with better credit scores, larger down payments, and lower debt-to-income ratios are often offered lower interest rates.
Steps to Help Your Credit Score
Regularly Monitoring Your Credit Report
To help your credit score, it’s important to regularly check your credit report for inaccuracies. You can dispute them directly with the major credit bureaus.
Paying Bills on Time
One way to help your credit score is to consistently pay your bills on time. Late payments, especially on student loans, credit cards, and other debts reported to the major credit bureaus, can negatively impact your score.
While overdue cellphone bills and utilities may also affect your score, it’s not always the case. To be safe, ensure you pay all your bills on time.
Reducing Credit Utilization
Another way to help your credit score is to reduce your credit utilization, which is the amount of credit you use compared to your total credit limit. Ideally, you should keep your credit utilization at 30% or less.
You can do this by paying down your balances or asking for a credit limit increase. Keeping your balances low shows lenders that you’re a responsible borrower and can handle credit well.
Limiting New Credit Applications
Limiting new credit applications is another way to help your credit score. Applying for new credit results in a hard inquiry on your credit report, which can lower your score.
To minimize the damage, avoid applying for new credit cards or loans unless necessary, especially if you plan to apply for a mortgage soon.
Diversifying Your Credit Mix
Diversifying your credit mix is another way to help your credit score. Maintaining a healthy mix of credit types, such as credit cards, personal loans, and installment loans, shows that you can manage different types of credit responsibly.
This can positively impact your credit score, demonstrating to lenders that you can manage different types of debt effectively.
Start Early
Starting to positively impact your credit score well before applying for a mortgage is an excellent way to help your chances of getting approved. It gives you ample time to address credit issues and create a more robust credit history. So, it’s recommended to start early and make consistent efforts to maintain a good credit score.
How to Get a Mortgage with a Low Credit Score
Getting a mortgage with a low credit score can be challenging. Try to help your score before applying for a home loan. You can talk to a mortgage lender to learn about your options and any assistance programs you might be eligible for.
If you cannot raise your score in time, consider an FHA loan with less strict credit requirements than other types of loans.
Bottom Line
If you’re in the market for a home, understanding how your credit score affects your mortgage rate is crucial. When you take steps to help your credit score and work with lenders to find the best loan options, you can save a significant amount of money over the life of your mortgage.
FAQ
Are Mortgage Rates Based on Credit Scores?
The mortgage rate you receive can be influenced by your credit score. A higher credit score generally results in a lower mortgage rate.
Does a Higher Credit Score Give a Better Mortgage Rate?
If you have a high credit score, lenders are more likely to trust that you’ll pay your mortgage on time. This can lead to lower interest rates and fees for your mortgage.
What Interest Rate Can I Get with a 750 Credit Score?
If you have a credit score of 750, you’re likely to qualify for a lower interest rate on your mortgage than someone with a lower score.
750-800 vs. 800+ Credit Score for Mortgage Rates
A credit score of 800 or higher can qualify you for even lower mortgage rates than a score between 750-800. But the difference may not be significant.
Can You Get a Mortgage with Less Than a 500 Credit Score?
You will unlikely be able to obtain a mortgage with a credit score of less than 500. Most lenders require a credit score of at least 620 to qualify for a mortgage, although some specialized loan programs may be available to borrowers with lower credit scores.