How Your Credit Score Affects Your Mortgage Rate

It is difficult to overstate the importance of a strong credit score for mortgage seekers, as lenders rely heavily on credit ratings when assessing eligibility for a loan and deciding on prospective loan terms.

Specifically, lenders focus on homebuyers’ FICO ratings. Lenders are less interested in making loans to costlier, higher-risk borrowers. Often, they charge higher interest rates or require larger down payments to compensate for behaviors that may seem costly.

Your FICO credit score is a specific type of credit rating that directly predicts the likelihood that you will repay a loan when it is due. Stronger scores indicate to lenders that you are reliable and that they will receive their money back on time, making you a desirable client. Low scores suggest that you are more likely to make late payments or to miss payments entirely.

How to Check Your Credit Score

Typically, mortgage lenders check your credit scores with the top three credit reporting agencies and use the average of those numbers when making their decisions. Your standard annual credit reports will not show your FICO score.

However, you can use online calculators to estimate it using the information provided on your standard credit reports. While this will not tell you exactly where you stand, it can help you anticipate lender interest in your loan applications.

The Three Credit Reporting Agencies

What is a good credit score for mortgage loans?

FICO credit scores fall on a scale between 300 and 850. The median American score averages about 721. In general, any score at or higher than 750 is considered strong by lenders and qualifies the holder to receive good home loan terms.

However, neither your score nor lenders’ requirements are set in stone. Your score can raise or lower over time as your income, debt and financial management practices change.

Lenders may also apply different credit score ratings to different applicants depending on factors such as where a home is located and the overall state of the lending and housing markets. You can ask prospective lenders about their minimum scores or preferred score ranges when applying.

How to Raise Credit Score by 200 Points

How to improve credit score ratings is a matter of serious concern if you have a low score. Fortunately, if you discover that your credit rating is not what it needs to be to obtain the types of mortgage terms you desire, then there are steps you can take to raise it.

Taken together, these seemingly small steps can have a large impact. Some mortgage seekers have been able to raise a credit score 100 points overnight simply by cleaning up their records and opening or closing accounts as needed.

Tip 1. Review and Correct Your Credit Report

Credit report agencies sometimes make mistakes when compiling your reports. Even these small errors can negatively impact your overall score. For instance, they may accidentally leave one or more of the following accounts open after you have closed it or misrecord the dates of the opening and closure:

  • Bank account
  • Loan
  • Credit card 

Therefore, the first step to increase credit score ratings when you are mortgage shopping is to carefully review your credit reports and contact the reporting agencies to correct any mistakes you find. Companies must correct false information when you bring it to their attention.

You are entitled to one free copy of your credit report from each of the three major reporting companies each year upon request. Remember to check each company’s report, as they may be different.

Tip 2. Open or Close Accounts As Needed

Credit reporting companies calculate your credit ratings based on your income-to-debt ratio. If you have too many accounts open, then you may appear financially stretched or risky, even if you are not actively charging any debt to your open credit cards or credit lines. Closing one or more of these unused accounts can change the balance and improve your score.

Conversely, if you have no credit lines open or too few lines open, then credit reporting companies may not have any positive numbers on which to calculate your score. This can also artificially lower your rating. In that case, opening a new credit card with a modest credit line, even if you do not use it, can improve your score.

If you are unsure where your debt-to-income ratio sits, then you can talk to a credit counselor at your local HUD Field Office or housing agency for free. He or she can advise you on how to improve your credit score in this area.

Tip 3. Avoid Applying for New Credit

Each time your credit is checked for any reason or you open a new credit line of any kind, your credit score drops slightly. There is no way to avoid this in the current credit reporting system. Therefore, you should avoid applying for any other type of loan or credit for a period of time before applying for a mortgage.

You should also avoid other activities, such as applying to rent or lease a new apartment or condo, which also involve credit checks. If you have done any of these things recently, then avoid applying for a mortgage until your score has recovered.

Tip 4. Address Any Lingering Debt You May Have

Bring any current debt up to date if you have not already. Check with credit card companies and other lenders to verify that your accounts with them are in good standing and take immediate action to correct the situation if you are not. If possible, pay off small outstanding debts.

How Long It Takes to Improve a Credit Score

Once you know how to increase your credit score, you may wonder how long it will take for your actions to have a useful impact. Unfortunately, there is no standard time frame in which you can expect results overall since each type of action will take different amounts of time to impact your score.

For instance, correcting errors on your report can improve your score almost instantly. It may take credit reporting agencies a few weeks to update your score after you open or close a credit account. In general, you can expect any changes you make to affect your score quickly, enabling you to continue pursuing a mortgage in a timely manner.

Should I seek professional help to improve my credit score?

Sometimes, consumers look into credit repair companies after they have become saddled with debt and feel as if there is no way out. While these companies cannot promise to fix your credit in a short amount of time, they may help remove incorrect derogatory marks from your credit report. Removing incorrect remarks may boost your score and make it possible to qualify for a home loan.

However, credit repair services come with risks. Many fraudulent services exist that promise to repair credit overnight and remove derogatory marks from your report, even if they are correct.

Be sure to verify a company before hiring it, and know your rights. For instance, a repair service may not charge you until it has completed the service.

You may also consider credit counseling if you do not want to pay for professional help. Credit counseling services are free and run by non-profit organizations. The main goal of these agencies is to improve your overall financial situation, not just your credit.

As a result, the agency will give you free financial advice and may help you develop a plan to become debt free. Common subjects for counseling include:

  • Credit and debt.
  • Student loans.
  • Housing expenses.
  • Mortgages and other financial burdens.

If you mention that your main concern is approval for a mortgage, then your agent may help you discover your best options.

Note that a true non-profit organization will not charge you any money throughout the process. If an agent requests a fee for a counseling session, workshop or similar matters, then do not work with that agency.