fbpx

What your Credit (FICO) Score means for your mortgage


Title image how your Credit Score affects your mortgage

Are you planning to buy a home?
Pre- Approval for a Home Loan is step #1.
Your Credit Score is a key factor.
See how your Credit Score affects your mortgage.

When it comes to buying a house, your credit score is a lot like your old SAT score. A high one is a distinct advantage. A mediocre one isn’t the end of the world, because other factors matter too. But a very low score? Well … that’s a little harder to overcome.

FICO Score helps lenders determine Your mortgage-worthiness
• whether you’ll qualify for a mortgage
• which loan options might be available to you
• it usually affects your interest rate
• which determines how much you’ll pay over the life of your loan.
• it affects the fees associated with your loan.

Keep in mind that lenders don’t look at your credit score in isolation.
There are other factors, so all is not lost if yours is not so great. Lenders also what to know how you fare in the other factors determine credit worthiness.

Different scores, different mortgage options
Where you fall on the credit score spectrum will affect what type of loan you can get. This overview can’t cover all the loan products and programs out there. Make sure you’re aware of all the options that might work for your unique situation. Consult a trusted lender / advisor.

Excellent credit score? Look into a conventional mortgage
Conventional mortgage loans are those that aren’t government-insured or guaranteed. They’re made strictly by private lenders, like banks and credit unions.
• Major plus: Conventional loans tend to have the best interest rates.
• Major caveat: To qualify, you usually also need excellent overall credit, steady employment, and a pretty good income. And remember that if your down payment is less than 20%, you’ll probably need to buy private mortgage insurance (PMI). Your lender will definitely inform you if that’s the case.

Medium or low credit score? Look into a government-backed loan
Government-backed loans are very popular with first-time homebuyers because they make buying easier financially, including for homebuyers whose credit score is south of sparkly. That’s a lot of us: simply being younger lowers your credit score, since you haven’t had as much time to build up a credit history.
• Major plus: More flexible standards for your credit score and overall credit. In addition, government-backed loans often have a lower or even no down payment.
• Major caveat: The government sets its own minimum credit score standards, but lenders are free to impose stricter ones and often do. Plus, some have income or other limits that might count you out.

Here are the main government-backed loans. Remember that the various loans have different requirements, and different benefits too. Again, make sure you’re aware of all the options that might work for your unique situation. Consult a trusted lender / advisor.

• Federal Housing Administration (FHA) loan: If your credit score is 580 or better, your down payment can be as little as 3.5 percent. You can search for an FHA lender at HUD.gov
• Fannie Mae’s HomeReady loan: You’ll need a credit score of 620 or higher, depending on factors like your debt-to-income ratio, although nontraditional credit maybe considered. Your down payment can be as little as 3 percent.
• Freddie Mac’s Home Possible loan: You’ll need a credit score of 660 or higher, depending on factors like your debt-to-income ratio, but again, nontraditional credit may be considered. Your down payment can be as little as 3 percent. If you’re buying a multifamily, this loan has extra flexibility on the down payment.
• USDA rural development (RD) loan: This loan is only available to lower-income homebuyers who want to live in designated rural areas, which includes towns with populations under 20,000. It requires a credit score of at least 640. It’s one of the only zero-down-payment options out there. Learn more at USDA.gov.
• Veterans Administration (VA) loan: Are you or a family member in the armed services? Explore this loan. The VA doesn’t enforce a minimum credit score, but most lenders want to see at least 620. Big plus: unlike other loans, this one doesn’t base your interest rate on your credit score, so a low score won’t saddle you with a high one. Visit VA.gov.

Different Scores affect your interest rate: small number, huge impactChart-effect-of-interest rate by credit score

With most loan options, your credit score is a big driver of the interest rate you’ll end up paying on your mortgage.  It works like a seesaw: when your credit score goes up, your interest rate comes down, and of course vice versa. A good guideline is that you’ll take a hit every 20 points or so. The impact on your monthly payment can be significant. The impact over the life of the loan can be jaw-dropping!
Let’s say, for example, you want to borrow $200,000 in the form of the typical fixed-rate 30-year mortgage. If your FICO score is 780, the lender might give you a rate of 3.8 percent. Your monthly payment$933. If your score is more average, say 680, you might get a rate of 4.8 percent, for a monthly payment of $1,2.
That’s another $45 a month because of that quarter-percent rate difference. Maybe that doesn’t sound so bad. But fasten your seatbelt for how much extra you’ll pay over the life of the loan: more than $16,000! That’s a lot of money you could have put into the house itself or stashed in an IRA. As you can see, it pays to take charge of your credit score.

Different score can cost you extra / additional fees
Little-known fact about conventional loans: your credit score can also affect various industry-standard “risk-based” fees, some of which lenders don’t even think to explain. The two main ones are LLPAs (loan-level pricing adjustment) and G-fees (guaranteed fees).
Such “add-ons” in turn are one reason why the interest rate a lender quotes you might be mysteriously different from what you see advertised. In other cases, you’ll be asked to pay extra at closing.
While these fees can have a significant impact on your bottom line, the government-backed loans that don’t charge them have their own fees and restrictions. Confusing, right? At the risk of sounding like a broken record … this is another case where a homeownership advisor will be able to help you weigh the variables and settle on the mortgage that works best for you.

By now you should understand the benefits of boosting your credit score before buying.
Some score fixes can be pretty fast, but others take real work and time. If your credit score is on the low side, should you work on raising it before you buy, or go ahead and buy now? There’s no easy answer, because it’s so dependent on individual and market circumstances that can offset a lower credit score. A homeownership advisor can help you think it through.

In the meantime, here are some questions to ask yourself:
• Can you come up with a larger down payment? That can offset a lower score.
• Or should you use that money to improve your credit score by paying down debt?
• Are rents or home prices rising fast in your area? Getting into the market now might save more than your credit score will cost you.
• Are interest rates in general going up fast?
• Have you found a house that’s can’t-pass-up perfect?