When you are ready to purchase a home, you need to get your financial ducks in a row. That means gathering documents the lender will want to verify your application, saving for your down payment and making sure you have a good credit score. All of these factors play a role in getting approved for your mortgage, but your credit score is one aspect that can have a major impact.
Credit score requirements by mortgage type
Based on the type of mortgage you apply for, lenders have different credit score requirements in their application process. However, there are some general guidelines they use as a starting point.
|FHA||500 with 10% down payment;
580 with 3.5% down payment
|VA||No minimum score, but most lenders have a minimum cutoff of 620|
It’s important to note that these credit scores are a baseline, so lenders may have their own guidelines and underwriting requirements that mean you must have a higher credit score than those listed above. It’s important to discuss the mortgage application at length with all lenders to determine their credit score requirements.
Do lenders abide by minimum credit scores?
The short answer is “yes.” After they are closed, the majority of conventional loans usually are sold by the lender to secondary mortgage market makers Fannie Mae or Freddie Mac, which require a minimum score of 620. Because they are government-backed programs, the Federal Housing Administration (FHA) and the U.S. Department of Agriculture (USDA) loans also must be approved according to those agencies’ requirements.
In fact, Joe Parsons, a senior loan officer with Pinnacle Home Loans, a mortgage banker in Dublin, Calif., said those requirements are “hard stops.” For example, “Fannie won’t buy a loan where the borrower has a score of 619,” he said.
And while the mortgage industry may fluctuate in the interest rates it offers, don’t expect the same regarding credit score requirements. In his 30 years of service as a loan officer, Parsons said he’s never seen a change in credit-score requirements.
What has changed, albeit slightly, he said, is the narrative about what is required to get a mortgage. “I still read occasional articles about how ‘insanely difficult’ it is to get a loan (it’s not), and how lenders are ‘cherry-picking’ only the best and most highly qualified borrowers (they’re not),” he said.
In some cases, lenders go beyond the minimum credit score requirements based on their own guidelines with what’s called a “lender overlay.” Essentially, they want you to have a higher credit score in order to qualify for their mortgage.
For the most part, Parsons said, lender overlays are not very popular. “Overlays are comparatively rare, but they do exist,” he said. “If someone gets hit with an overlay, trying a different lender could solve the problem.”
How does my credit score affect my mortgage?
Credit scores are used to measure the creditworthiness of a borrower, which means it gives the lender an idea of how reliable you will be when it comes to repaying the loan. If you do get approved for a mortgage with a lower credit score, there will be some negative tradeoffs in return.
Higher interest rate: It’s common practice for lenders to offer the lowest interest rates to borrowers with a high credit score. Therefore, as your credit score drops, the scale tips in favor of a higher interest rate.
Larger down payment: By putting more money down on your mortgage, you reduce your loan-to-value (LTV) ratio and show your ability to pay the loan as agreed.
Force you into a cheaper home: The overall result of a low credit score could be a more expensive mortgage. A larger down payment and higher interest rate both mean you are paying more for the house you want, and, therefore, could put it out of your budget.
Good news: Your credit score is not the only factor when it comes to buying a house
While credit scores are important to lenders — after all, they are good indicators of how likely you are to repay the loan, lenders look at other factors when you apply for a mortgage.
LTV ratio: This factor looks at how much the property is worth versus how much the loan against it is valued. The lower the LTV, the less risky the loan is for the lender.
Debt-to-income (DTI) ratio: DTI is how much you pay each month to cover your bills versus how much you make each month. This does not take into account your living expenses such as utilities, groceries or gas.
Amount of money in checking and savings accounts: Not surprisingly, the larger the balance in your checking and savings accounts, the more financial stability you have, which lenders want to see from borrowers.
Current income: You’ll need to provide proof of your current income in order to determine your DTI, but this also lends credibility to your creditworthiness.
Employment history: Most lenders want to see that you have job stability, so expect to provide proof of at least two years of your job history. For self-employed people, you will need to prove your income by supplying your tax returns for the last two years, maybe longer.
Tips to get your credit score where it needs to be to buy a house
If your credit score is not as high as you, or lenders, would like, there are steps you can take to boost it. First and foremost, pay your bills on time every month. Late and missed payments are quick to affect your score negatively, so make this a priority.
One key factor affecting your credit score is the utilization rate, or how much of your available credit you spend each month. For instance, if you have a total of $1,000 in available credit on your credit cards but you only spend $100 a month, your utilization rate is a low 10%. But if you spend $800, your utilization rate jumps up to 80%, which brings down your credit score. Ideally, you should have a utilization rate of 30% or less.
Do not close any credit accounts, even if you pay them off. The reason for this goes back to your utilization rate. If you pay off a card with a $500 limit, that increases your available credit, which lowers your utilization rate. Also, the record for that card will show your good payment history.
Finally, review your credit report to make sure all of the information is correct. Errors on your credit report can significantly damage your credit score, so it’s imperative to get those removed as soon as possible.
A final thought
Although a high credit score can make it much easier for you to qualify for a home mortgage, it’s not the only factor lenders consider when evaluating your application. Take steps to make your credit score the best it can be, but don’t overlook the other elements it takes to put together a solid mortgage application.
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