Why Credit Scores Are Important When Buying A House

In real estate transactions, a credit score is more than just a number. It allows the lender to determine your trustworthiness and creditworthiness as a borrower. It also serves as an indicator of the probability of you repaying the loan. The higher your credit score, the less risk you pose to the lender of not being able to make your payments, consequently, the lower your credit score the risk increases. Your credit score will determine the loan amount, interest rate, and terms that the lender will be able to extend to you as the borrower. Your credit score will also decide, how much of a downpayment will you need to pay before your loan is approved. Most lenders use the FICO credit (Fair Isaac Corporation) score, which examines financial data and compares it with other individuals to come up with a ranking. FICO has credit scores ranging from 300 (Very Bad Rating) to 850 (Excellent Rating). Required Credit Score Most potential homeowners would explicitly ask what credit score is required to be able to get a loan. There used to be hard and fast rules for this, however, there has been flexibility in recent years. Most traditional lenders and institutions would require a credit score of at least 620, although this does not guarantee automatic approval of a loan. This is the minimum that lenders would require and get approved is not a guarantee. The lender may still ask for additional supporting requirements such as a security deposit. An alternative option to traditional lenders is loans from either the USDA, FHA, or VA, they have a lower credit score requirement of 500 to 580, depending on which program. They have more lenient requirements but come with certain downsides. FHA loans have a maximum loan limit while USDA requires you to buy a home in a rural area, VA only a limited number of sellers accept VA loans. Alternative loan options also come with certain advantages such as zero or low downpayment, maximum payment terms, and low-interest rates. Improving Your Credit Score If your credit score is in great shape, that is well and good. However, if it isn’t, don’t lose hope. There are still ways to fix this. Improving your credit score can be a formidable task, it’s a long journey that needs effort and dedication. Some simple steps to take to improve your credit score include avoiding missing due dates on all your bills, reducing credit utilization, limiting hard inquiries, and consolidating your debt. Credit utilization of 30% is ideal, this means that you only use 30% of your available credit. However, if your goal is to improve your credit, going as low as 10% utilization would be better. You can either spend less using your credit card, pay more towards it, or increase your credit limit to drive down the utilization ratio. Avoid hard inquiries as these can also affect your credit score anywhere between a couple of months to a few years. Hard inquiries include applications for a car loan, a mortgage, or even a new credit card. These could be misconstrued as either overspending or you’re having financial troubles. Debt consolidation is a great option if you have debts with multiple institutions. A debt consolidation loan offers a lower interest rate and makes it easier to keep track of what you owe and payments dues. Always review your credit report, although not often, there are times when mistakes on it that can lower your score. You can also regularly report movements on your credit such as fully paying a loan or a credit card. The Bottom Line Maintaining a good credit score is important and not just for real estate purposes. It affects your finances, and therefore everything else in your life. Institutions such as banks and utility companies use your credit score to determine the credit line they can extend. Staying below your credit limit and avoiding missed payments are simple ways that would help ensure your credit score would stay in the green. Check your credit score as you start planning to buy a house. This would give you an idea if you will be able to meet a lender’s requirement and also get an expectation on how much you can get approved for and what the interest rates would look like. This can help you decide if you are financially ready to take the next step on your homeownership goals.