When it comes to credit, your credit report is like a scorecard. It shows your relationship with debt. If someone wants to lend you money, such as for a credit card or an auto loan, they want to see what your history has been with managing debt. A credit score is a summary of your credit history and helps lenders rate your ability to repay debts.
If you have a history of repaying your debts on time, you are a low risk to lenders, and you’ll get more favorable loan terms. If your debt history is not so good, lenders are going to adjust their offers to loan you money based on the risk you present.
Should I wait to buy a house if I don’t have great credit?
It’s awesome to have a high credit score. But if you don’t have a high score, should that prevent you from buying a house? Should you wait until you have an 800 credit score? Absolutely not. Many loan officers and mortgage brokers have options for people with credit scores into the mid to low 500s.
It’s better to buy now, use one of the programs that are designed for lower credit scores and then work on improving your credit so you can refinance later and perhaps get better terms and save some money. In the meantime, you’ll enjoy the benefits of owning your home (including important tax benefits) and you’ll pay down your own mortgage, not your landlord’s. You can build wealth through owning real estate that goes up in value over time. And because real estate tends to get more expensive, it’s better to buy sooner than later.
Your Middle Credit Score Matters Most
In the US there are 3 credit bureaus–Experian, Equifax and TransUnion–that each generates a credit report for you and a credit score, up to 850. Your credit report contains an in-depth list of all your debts, your payment histories, your account balances and credit inquiries (from the last 2 years) as well as personal information and any public records.
Often, lenders will pull your credit score from all 3 of the bureaus. They do what’s called a hard inquiry. Each bureau has their own calculation on how credit is assessed, and there are usually differences among the credit scores of the 3 bureaus. In addition, some creditors only report to 1 or 2 of the credit bureaus.
Lenders will often look at all 3 credit scores but only use the score in the middle. They don’t use an average; they use the middle credit score. For example, if you had an 800 credit score, a 600 credit score and a 750 credit score, they will use 750. That’s important to understand.
Tip: A hard inquiry is an inquiry from a creditor that shows up on your credit report. It doesn’t mean that you opened a new account, but it can raise a question to a potential lender as to why you had your credit checked. They may ask you if you opened a new account that doesn’t yet show up on your credit report.
How Your Credit Score Is Generated
While there are some differences between the credit bureaus, they all focus primarily on these 5 areas:
- Payment history. About 35% of your credit score is determined by your payment history. This is the highest weighted factor. It is vital that you make your minimum payments and make them on time.
You might have a grace period to make a payment, such as for a mortgage or a credit card, but it usually is no longer than 15-30 days. Any payment later than 30 days is going to show up on your credit history and negatively impact your credit score.
- Amounts owed. About 30% of your score is based on how much of your revolving credit you are using (such as credit cards). Try to use no more than 33% of your available lines of credit at a time. Payment history and amounts owed together account for about 65% of your credit score. To improve your credit score, always try to pay your bills on time and keep your balances as low as possible, especially on revolving lines of credit.
- Credit line history. About 15% of your score is determined by how long you’ve had credit accounts open. When you open credit cards, keep them open. People tend to say, “I’m going to pay off my debt and close off my credit card.” But closing that paid-off credit card is going to negatively impact your credit.
We recommend you pay your account balance down to zero, but don’t close the account. If the account stays open, that history stays on your credit report for longer, in a good way. We would recommend you get into the habit of using a little bit of credit, paying it off, using a little bit, paying it off, etc.
However, if you have problems with self-control, then cut up an unnecessary credit card and close the account. That will be better for you in the long term.
- Credit mix. About 10% of your score. Credit mix means what kinds of credit do you have. Do you have only credit cards? (That’s bad.) Or do you have a mortgage, an auto loan and a credit card? That’s great news to a lender. It shows you have a good relationship with debt; you can manage different kinds of debt. If you’re borrowing money and making on-time payments on your car, your home loan and your credit cards, that looks great to a lender. Lenders like to see a credit mix. Lenders also understand it’s not always possible to have a favorable credit mix right out of the gate. For example, a young first-time home buyer may only have credit cards. If you only have a credit card, you could get an auto loan that fits your budget. That’s going to be helpful if you make your payments on time
- New credit. About 10% of your score. This is where people get concerned about their credit score being checked. If a lender pulls your credit, it’s a hard inquiry, meaning it shows up on your credit report, but it’s not likely to impact your credit score. What will impact your credit score is if you apply for credit for a new mortgage, a new yacht, a new airplane and more credit cards in a fairly small window of time. That will impact your credit score, although it’s only about 10% of your score. You might go from, for example, a 700 down to a 630, and that is a substantial change. But it will have less impact than if you miss a payment.
Tip: If you have questions about your credit score and how lenders will look at you, talk to an experienced mortgage guide. They can help you understand your personal situation better.
Keep Credit Checks Close Together
You as a consumer have the right to shop for a mortgage, and there are protections for you. You can have multiple mortgage companies pull your credit. We recommend that they do so in a small window of time, preferably 30 days or less. If a few mortgage companies pull your credit within about a month, your credit scores won’t change.
You can allow 1-3 preferred lenders to pull your credit, because it is vital to getting preapproved and getting an accurate loan quote. You don’t have to allow all lenders to pull your credit while you’re still exploring your loan options.
Or, you can allow just one lender to pull your credit, ask them what your credit scores are and share that information with other lenders you’re considering. Have them pre-qualify you and give you a loan quote. Get to know them and then decide who you like best, but do it in a 30-day window.
You don’t want your personal information given out to a bunch of people you don’t know. Limit sharing to as few people as you need to make an educated, wise decision about your mortgage.
What if my credit score differs from one lender to the next?
If your credit score changes from one pull to another and you’ve been paying your bills on time, it usually just means that something else has been reported. Maybe you made a payment on your credit card, or your student loan reported a new balance. It might fluctuate a little from one lender to another, but if you’re paying all your bills on time, it should be a minimal change.
Top Ways to Improve Your Credit Score
- Make all payments on time. This is the single most important thing you can do.
- Pay down and keep your balances on revolving credit such as credit cards to 33% or less of the available credit. For example, if your credit card line is $10,000, try to keep your balance under $3,300. You can request that your credit line be increased to improve this ratio, but keep your usage to about a third of the available credit. Better yet, keep the balances as low as possible.
- Build your credit history by keeping accounts open longer, even if you only use that account occasionally. You can also boost your credit scores by getting added as an authorized signer to someone else’s account that has been open for years, such as a parent or spouse. It usually takes a couple of months to see changes to your credit score, but it can work really well.
- Review your credit report and ask that any errors or disputed items be removed. Work with the credit bureaus to fix errors. You can call them directly to request that negative items be removed. A good mortgage guide can also help you remove derogatory accounts.
If You Need a Good Mortgage Guide…
A good mortgage professional can give you personalized tips to improve your credit scores.
We have some cool pro tips to boost your credit. Sometimes it’s just moving balances around. We’ve had some clients move $10 from one account to another to get their balances back in line, and we’ve seen credit scores jump 20-40 points as a result. And that could be the difference between getting one interest rate and a lower rate. If you’d like to talk to an experienced mortgage guide, we can connect you to one.