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Credit scores play a huge role in the homebuying process. The scores not only determine whether or not you qualify for the home loan but also what the mortgage terms will be. Therefore, it becomes very important to learn about the credit scoring process and how your credit score can impact your ability to rent an apartment.
Your credit score plays a big role when purchasing a home or renting an apartment. Your credit score determines the types of loan options that are available to you. Depending on your credit score, you may or may not qualify for certain loans.
A credit score will also impact your loan’s interest rate, mainly because the score reflects the amount of risk involved in dealing with you. A lower credit score will cause lenders to negotiate a higher interest rate for you since there is a higher risk that you won’t pay back the loan.
Having a good credit score is crucial when you want to secure a home loan. Always check your credit score before applying for a loan. Doing so will save you time, especially if you need to address items on your credit that reduce your score. Also, your lender will likely request a report from one of the three credit reporting agencies. It’s important to note that your credit score may vary depending on the agency, so ask your lender which agency they will use for the basis of your credit check.
There are different types of loans, and each one includes different FICO credit score limits.
1) Conventional Loans
2) FHA Loan
3) VA Loan
4) USDA Loan
The lowest credit score you can have to qualify for a conventional loan is 620, and even then the lender may not approve the loan since most require a higher score. On average, lenders in 2020 approved home loans to homebuyers with credit scores of or around 750. In addition, borrowers with a higher credit score may earn additional loan perks, such as paying less of a down payment.
The Federal Housing Administration, or FHA, may grant you a loan with a credit score of at least 500. FHA loans also allow down payments as low as 3.5% of the sales price, but you would likely need to have a score of 580 and above to qualify for that. If your credit score ranges between 500 and 579, you may qualify for a 10% down payment.
Lenders have the right to impose a minimum credit limit on their loans. Even when lenders are ready to approve borrowers with a credit score of 600 or less, they will be more interested in knowing the borrower’s financial situation.
This type of loan is granted by the Department of Veterans Affairs to active duty military or veterans. There is no set credit limit for VA loans, although the desired credit score should ideally be between 600 and 700.
This is a type of home loan granted by the U.S. Department of Agriculture. Like VA loans, there are no credit-based qualifying criteria. But, lenders prefer borrowers with an average credit score of around 650.
If you don’t have the credit score for your desired loan type, it’s in your best interest to hold off on getting a new home until you’ve improved your credit score.
Here are some practical tips for doing that:
✓ Pay off outstanding debt.
✓ Limit your credit card use to 30% or less of your credit card limit.
✓ Check your credit score regularly and review your credit report for mistakes or inaccuracies.
✓ Avoid closing your credit card accounts after you pay off the balance; closing those accounts means you have less available credit to use, which may affect your credit rating.
✓ Diversify the type of credit used; use both loans and credit cards.
Note: By law, you may have a free copy of your credit score every year from each of the three credit scoring agencies: Equifax, TransUnion, and Experian. In 2020, agencies increased the frequency of obtaining free credit reports to once a week.
Improving your credit score will almost guarantee you qualification for one or more of the loan types. As a result, you’ll have multiple options to choose from when purchasing a home. However, it is worth reiterating that there is no quick fix and overnight solution for increasing credit scores. Especially for those who have a long history of making late payments or missing bill payments altogether. It can take years to fully recover from a credit score tumble, so be patient and consistent with your efforts to improve your credit score.