It’s not easy to get a mortgage. Yes, strict rules and close scrutiny of mortgage applications by lenders have made a positive impact on the finances of many Americans. But that doesn’t change the fact that it’s difficult to buy a house!
No time to read now? Pin this article for later.
The most common roadblock to homeownership? Poor credit. If you have a low credit score, it will be difficult to qualify for a home loan, let alone get a competitive interest rate or a loan program that will meet your needs for the long term. But what if you could take steps to improve your credit score before you set out to purchase a home?
The answer is – you can, and The Purpose of Money has some practical tips on how you can build your credit before buying a house. Make sure you read and follow this to be ready for a mortgage!
Before Working on Your Credit
There are things you can do before you start working on your credit score. First of all, you need to have an idea of what kind of house you hope to purchase. This isn’t the time to make a final decision, but you do need to start somewhere in order to get your savings plan in place.
When buying a house, you’re going to need to make a down payment and pay closing costs. The exact amount you’ll need for the down payment depends largely on the purchase price of the home. The loan type you choose will also make a difference in the size of your downpayment.
Some loan programs require as little as a 3% down payment, while Jumbo loan amounts (over the conforming loan limits in a geographic area) require between 10 to 20% down.
As a first-time homebuyer, you might choose to apply for an FHA loan. The FHA loan programs are slightly easier to qualify for due to more flexible credit scores and debt requirements. Plus, the minimum downpayment is 3.5% for FHA loans.
If you’re a veteran, then you’ll have the option of getting a loan through the VA. Not only are VA loan requirements also more relaxed, but they also don’t require a down payment and typically have a lower interest rate. Of course, even without requiring a downpayment you still need to cover closing costs and continue saving up your home emergency fund.
First, Check Your Credit
If you don’t know what’s in your credit history, the first thing you need to do is order a report from each of the credit bureaus. TransUnion, Equifax, and Experian offer a free report to consumers every year. And it’s a good idea to get the free report annually so you can monitor your credit for any errors and “surprise” issues.
When looking over your report, if you find any inconsistencies or errors, you can dispute them promptly. Make sure you contact the credit bureau that provided you with the report with the incorrect information. You’ll notice that not all information is the same on each report.
Mortgage lenders will order a credit report that combines the information from all three credit bureaus. They don’t want to miss anything. The lender will also have your “mortgage” credit score, which is the only score that is used for qualifying. While you’ll get a credit score with your free report, it’s the “consumer” credit score and usually 10-50 points different from the mortgage score.
How to Build Your Credit
Be a great renter.
While your dream may be to own a home, you can still use your time as a renter to your benefit. Always make sure you stay consistent in paying rent and use a debit card or check to make payments. Paying on time and as agreed will reflect well on your dependability when it comes time to qualify for a mortgage.
And, while not a hard and fast rule, moving frequently can project a bad image to a lender. If nothing else, it will make the underwriter look at the rest of your financial profile more closely and possibly make an incorrect assumption about your dependability.
Be frugal with your credit utilization rate.
When buying a house, it’s best to keep your credit card utilization rate under 30% (really, it’s best to keep it under 30% all the time). What is credit utilization? It’s the percentage of credit you are actually using compared to the entire amount you’ve been granted. For example, if you can borrow up to $5,000 on a credit card, it’s wise to only use a maximum of $1,500 (30%) at one time.
Your credit utilization rate basically tells lenders how much of each credit card you are using. All you have to do to determine your rate is to divide your monthly balance by the maximum credit limit. For example, if you have a limit of $7,000 on your credit card and spend $2,500 during the billing period, your utilization rate is around 35%.
Be safe and automate your payments.
Missed payments are terrible for your credit score and they reflect poorly on your credit history. But life happens and even with the best intentions, the next thing you know – you’ve missed a payment. One practical method for preventing missed payments is to set up automatic payments for all of your bills and loan payments.
This can usually be set up quickly with your banking institution. Or, you can set it up directly with your individual creditors, like your credit card companies, and for your car loan.
Be Aggressive in tackling your debt.
Not only does carrying a significant amount of debt negatively impact your chances of buying a house, but it can eat up all your available income. It’s impossible to save money to buy a home when you spend it all making minimum monthly debt payments. You should seriously consider eliminating the debt before purchasing a house.
At any time you carry a lot of debt, you can find yourself in a precarious financial situation. Revisit your budget and make any modifications necessary to cut unnecessary expenses, and consider allocating less money to comfort items. Then, create a debt reduction plan to conquer your debt as soon as possible. And stick to it.
Here are some more great tips and valuable information about getting ready to buy a home.
Be educated by taking a course in saving.
If you’re living paycheck to paycheck, even when making good money, it’s time for a change. While it requires an investment on your part, taking a course like Masterclass Finances 101 can help you learn how to budget, save, pay off debt, invest your money, and more. This course will help you learn to level up your money game so that you can finally afford the house you want while continuing to save for the future.
If you have below-average credit, do everything you can to improve it before you purchase the home of your dreams. Come up with a plan, evaluate your credit report, work on paying off debt, and be a reliable renter. Make sure you reduce your credit utilization rate, set up automatic bill pay, and, of course, don’t hesitate to connect with professionals who can help you along the way!