6 Surprising Facts About Credit Scores and Mortgages
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Your credit score is a big piece of the mortgage application puzzle. Positive credit history and a high score show lenders that they can count on you to make your monthly payments on time — an important commitment with a financial investment as large as a home loan.
A bad score can damage your chances of getting approved, while a good score can save you tens of thousands of dollars in interest over time. According to LendingTree’s February 2019 mortgage offers report, borrowers with scores above 760 paid an average of $198,105 in interest over the life of their loans versus $251,200 in interest paid by those with scores between 620 and 639.
Here are six things to know about credit scores and mortgages.
- Low-scoring borrowers may still qualify for a mortgage
- A spouse’s low credit score could mean a higher interest rate
- In community property states, even a non-applicant spouse’s credit is important
- Paying down credit card debt helps more than paying down your mortgage
- Credit scores can affect homeowners insurance premiums
- You can get a mortgage even if you have collections on your report
1. Low-scoring borrowers may still qualify for a mortgage
Those late-night commercials that start with “Bad credit? No problem!” aren’t entirely off-base when it comes to mortgages. You can still qualify for certain home loans even if your score is low. While conventional mortgage lenders require a minimum score of 620, government-backed FHA loans may be available to those with scores as low as 500, and VA loans could come with no minimums.
That said, lenders prefer borrowers with higher scores because they present a lower risk of default. The average credit score for government-sponsored Fannie Mae dropped from 762 in 2010 to 743 in the second quarter of 2018 — but that’s still out of reach for many.
If you do have poor credit, you may need to make a higher down payment to qualify for your mortgage. LendingTree data shows that low-credit borrowers with scores below 680 had an average loan-to-value (LTV) ratio of 76%, which indicates a larger down payment compared to an average LTV of 83% for all loans.
“It may seem like a few percentage points, but it is significant,” said Tendayi Kapfidze, LendingTree’s chief economist.
2. A spouse’s low credit score could mean a higher interest rate
You and your spouse won’t combine credit scores when you tie the knot. But your partner’s low score could still affect your ability to borrow money (or vice versa). Lenders are taking on risk when they approve you for a mortgage, so they’ll look at the lowest score on a joint application to assess the worst-case scenario.
In general, a higher risk could mean a higher interest rate — which will cost you more over time.
3. In community property states, even a non-applicant spouse’s credit is important
It might seem like a good idea to leave one partner’s poor credit history out of the mix to improve the chances you’ll get approved and be eligible for a lower interest rate. But in community property states, debt taken on during a marriage belongs to both spouses.
This includes your mortgage — and it means lenders can factor both credit scores into their decision even if you are the only one on the application if you live in Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington or Wisconsin.
For government-backed mortgages in community property states, the non-purchasing spouse’s credit must be considered, according to the Department of Housing and Urban Development, but that does not disqualify the borrower from receiving a loan.
4. Paying down credit card debt helps more than paying down your mortgage
One major factor in your credit score is credit utilization: how much of your available credit you’re actually using. For example, if you have three credit cards with a total limit of $10,000 and your balance across all three is $2,800, your utilization ratio is 28%. In general, you should aim to keep your utilization rate at or below 30%.
While your mortgage and other installment accounts (like your car loan) do factor into your credit score, your revolving accounts matter more in the “amounts owed” category. If you have extra cash available, pay down your credit card balances and lower your utilization rate before paying more on your mortgage.
5. Credit scores can affect homeowners insurance premiums
Your credit doesn’t just affect your ability to get approved for your mortgage. Once you buy your home, it could also affect your homeowners insurance policy and premium.
Your credit-based insurance score helps insurance companies predict how likely you are to make a claim against your policy and require a payout. Some states allow insurers to use this score to calculate premiums, while others can consider it a factor in issuing policies.
FICO bases your insurance score on information found in your credit report:
- Past payment history (40%)
- Current level of indebtedness (30%)
- Amount of time credit has been in use (15%)
- Pursuit of new credit/new credit (10%)
- Types of credit experience (5%)
6. You can get a mortgage even if you have collections on your report
Your past money mistakes don’t disqualify you from getting a mortgage. Even if you missed a few credit card payments or had a medical debt go to collections, lenders may still work with you if you can convince them you’ll pay on time and in full.
A letter of explanation can shed light on derogatory marks on your credit report and the extenuating circumstances that got you there. This information helps lenders better understand your financial situation and decide whether to approve your loan.
Keep in mind that you don’t have to have poor credit to submit a letter of explanation. Mortgage experts say that most borrowers have something in their financial record — an income gap or job change, for example — that is best clarified with such a letter.
The bottom line
When it comes to your mortgage, your credit score is important, but it’s not the only thing lenders care about. Your history with that lender, your existing debt and assets, your income and your savings all play a role in the decision to approve or deny your loan, and on what terms. Do what you can to maximize your financial well-being before you apply for a mortgage.