Before you even think about getting a mortgage and buying a home, you have to look at your credit score. If it is poor or even just mediocre, you will want to improve it. Why does your credit score matter so much when you go to buy a home?
- Down Payment: With better credit, you don’t have to put so much money down
- Interest rates: remember the housing crash and the variable rates that hurt everyone? Between that and paying higher interest rates, the cost of your loan and therefore your home goes up in the long run.
- Terms: If your credit is better, you can get preapproved for a certain mortgage amount, and go into a negotiation from a stronger position.
So what do you do if your credit score is not that great? Well, there are some simple steps you can take to improve it, and they are not hard and really don’t take that long.
Pay Down Debt
Maybe the reason your credit score is not so stellar is that you have too high of a debt to income ratio. The solution to this? Pay down debt. This means you take the debts that are most pressing right now, like credit card debt, and pay them down. Have trouble doing so or just want some help? There are debt recovery services that will help you negotiate with and pay off debt.
You can also get a debt consolidation loan if you qualify. This takes all of your debt and puts it in one simple payment. This can boost your credit score by paying off a bunch of debt right away, and making payments on your debt consolidation loan on time or even early will help even more.
Use Credit Wisely
You have credit cards, and maybe they are maxed out or very close to their limits. The first step is to pay these cards down so your balances are simply lower. The next step is to use these cards for normal purchases, but don’t carry a balance on them. Instead, pay them off every month when you get the bill.
Remember the rule is that you should only be using 30% or less of your available credit to have a great credit score. So don’t go over 30% of the limit of the card (for instance, if you have a $6,000 credit line, don’t carry more than a $1,700 balance). So even if you have to pay twice a month to stay under these limits, do so. Your credit score will skyrocket.
The same is true if you have lines of credit or even secured credit cards. Keep balances low, percentages under 30%, and you’ll be much better off.
Take Out a Loan and Pay it Back
When trying to improve your credit score, it is good to use the credit you have available, at least to an extent. If you have no credit cards and no outstanding revolving accounts, you are not building any positive credit. Even if you have bad credit, you can get a personal loan, then pay it back slowly to build up your positive credit score.
The key here though is to pay it back over time but make payments early or on time in order to keep this a positive reference. Never be late or default on a loan when you are preparing to buy a home. The effect on your credit score can be disastrous.
Keep a Good Bank Balance
If you are making a down payment often lenders will want to see that you have had that money in the bank for a while, and will want to know the source. They don’t want you to borrow the down, so keeping a good bank balance is a good way to reassure them that you are financially worth their risk.
Even though a mortgage is secured by the value of your home, the bank needs to see that you are good for the money and have not leveraged yourself too far in order to afford your monthly payments.
Also, you don’t want any overdraft fees or other negative scores that show you to be financially irresponsible. Keep a good balance in both savings and checking, and don’t make any large purchases in the months leading up to buying a home.
Get Mortgage Advice
The last step is to talk to a lender early. Once your credit score is on the mend, they can tell you specifically what you need to pay off and what you need to pay attention to in order to get the best rates and the best mortgage possible. From your bank to a private mortgage broker, many will offer these services at reasonable rates. Remember, they want to you be successful buying a home too, so they have your best interests at heart.
Don’t be afraid to get a second opinion if some things sound fishy at first though. A big part of the issue in the housing bubble ten years ago was uninformed customers who did not understand the terms of what they were being sold. Go to an advisor who has been around a long time and is trusted and ask questions. If it sounds too good to be true, it probably is.
Improving your credit before you buy a home will save you a lot of trouble and money in the long run. Take these five steps to get your credit in top shape before you go for a mortgage.
