Increasing Credit for Home Buyers or Mortgage Refinance
Most people have a basic knowledge of how their credit score works and what types of things will contribute to this score. They know the higher it is, the better it is and to get better rates in both loans and insurance they need their score to be a good one. However, where many become confused is in how much impact different things affect this score and how they can change it. There has been a longstanding thought that it takes years to build a decent credit score and this is mostly true. You need to make all your payments on time, not have too much debt, and keep your borrowed amounts within a certain percentage of your available revolving credit. However, there are some things you can change that will impact your credit score in a shorter time frame and therefore help you get a lower rate and better options when buying a house or refinancing your mortgage.
Firstly, just like the process of getting a mortgage, raising your credit score is not likely to happen quickly. While there are things you can do that will reflect sooner, you’re still looking at months of financial changes and behavior. For those with extremely low scores, those with sparse or no credit history, or those who may have had collections and unpaid debts in their past, there is no quick solution. For those who have a score on the higher end of low or are in the middle ground, you can often see a difference by six months once you’ve started to put in the hard work. Regardless of where you’re at, the steps to take are about the same.
How a score is determined
There are three main credit bureaus, Experion, Transunion, and Equifax. While many lenders report to all three, some will only report to one or two. Credit scores are determined by several different aspects of your borrowing habits and history. Understanding how much this information impacts your score will help you to know what your need to focus on and what your need to improve the most. A score under 650 would be a low score and will decrease your chances of being approved for a loan. Between 650 and 760 is the average. This is a wide range and each lender will determine where you fall based on their policy. Scores above 760 are usually considered good and you usually won’t have trouble getting a loan in this range, though even here any home buyer can find themselves paying a little more if their score is at 760 rather than 800, so even those with good credit should work towards improving it even more before refinancing a mortgage or buying a home.
- History (35%)
The largest part of the score, accounting for 35%, is your payment histories. Any late payments will reflect poorly as it shows lenders you may not be reliable to pay your debts on time. If you’ve been late by a day or two, don’t panic. Legally, late payments can’t be reported until they’ve reached 30 days late.
- Usage of revolving credit (39%)
There are many who regularly use their credit card and then pay it down, or use it for large purchases and then slowly pay it off, but this could be hurting your credit score. Making up 30% of your score is how you utilize your revolving credit. If you constantly have higher balances on credit cards, this will negatively impact your score.
- How long your borrowing relationships last (15%)
Having the same credit card for years looks better on your credit history than having a series of short ones. It shows that you can maintain a financial relationship. It also shows that you don’t rush to pay off loans, which lenders like as they know they can make more interest. This accounts for 15% of your credit score.
- Variety (10%)
If you’ve gone your entire adult life and only had auto loans, you may want to get yourself a credit card or personal loan. Having various types of loans and borrowing will reflect 10% of your score because it shows that you understand varying borrowing conditions and you know how to manage your money in different ways.
- New credit accounts (10%)
Whether you should open new credit accounts or not is something often debated. In one way, it increases your available credit limits and therefore will help with the part of your score relating to your use of available credit. On the other hand, it also means having a lender pull your credit and will hurt the part of your score that has to do with how long your borrowing relationships last. This makes up 10% of your score and each situation is unique. You need to think carefully about your current situation and whether opening a new credit account would hurt your more or help you.
What can you do to improve your credit score?
Now that we’ve gone over how much different factors impact your score, many may be wondering how to increase credit for home buying or refinancing. What are the steps needed to raise your score in a shorter time span to prepare for refinancing or buying a house? There are actually several things you can do.
- Review your history
The first thing you can do, and something you should probably do every few years anyway, is to review your history. Lenders are human and they do make mistakes. Finding mistakes in your history and reporting them could improve the score. There have also been people who have found identity theft in their past by reviewing their history and even some who found minimal remaining balances that they forgot about. Once you can report and clear up any of these issues, you’ll be able to move forward knowing that everything has been reported correctly. There is also an option available for those getting a mortgage called rapid rescoring. This is only for actual mistakes on your history that you can prove are wrong. You can also work with a Credit Repair Service to fix issues, though this can get a little pricey. Checking your history is not a difficult process and you can pull it from the three credit bureaus for free once a year by going to annualcreditreport.com.
- Reduce revolving debts
We’ve already discussed how much maintaining large balances on credit accounts can impact your credit score. Paying off those debts, or paying the majority of them, can help to rebuild credit quickly. For your available credit limit, you’ll want to keep your balances owed under 30%. Otherwise, it looks as though you struggle to pay it off or that you borrow too much on credit cards and the like. If you have high balances and can’t pay them, you may want to discuss your options with a professional. They might suggest using some of your down payment to take care of debts as it’ll save you more in interest. They may also be able to direct you to a consolidation option that will allow you to pay it back quicker.
- Don’t pay anything late
This goes without saying, but you should never make late payments. While it won’t affect your credit until you reach 30 days late, many lenders won’t hesitate to send you to collections as soon as possible. Credit reports show a history, going back about seven years. The reason for this is because of the lifespan of a mortgage. If you’ve only had good payments history for a year, but previously you were making late payments left and right, it shows that you may not always be reliable. Lenders are taking a large financial risk when lending you money for a mortgage. Therefore, they want to be as certain as possible that you’ll pay it back. Because any late bills can be reported, including things like utilities, you need to make sure you don’t only focus on paying back your loans on time. You have to make all your payments on time. Setting some kind of reminder or creating some type of automatic bill pay can help with this. However, if you plan on using bill pay, you’ll still want to make sure the payments went through accordingly.
- Understand there are different scores
Many people use various methods to check their own score, or they may have recently taken out a different type of loan and look to that to determine their credit score. Unfortunately, this doesn’t always work. You’ll likely know an approximate score, but not necessarily the exact number the lender will see. The reason for this is partly due to the three credit bureaus and how they will have different scores based on the reporting they receive, but there are different types of credit scores as well. An auto dealership will see a different score than what your credit card company sees. To put this into perspective, FICO can use up to 49 different types of scores that are calculated differently based on the lender asking for it. However, it should be noted that scores are put into ranges and your various scores should all be fairly close.
- Settle outstanding debts
This is one that many people struggle with. It’s often embarrassing when you fall behind on a bill or if you miscalculated and used more credit than you thought and couldn’t pay it back on time. These debts are impacting your score and costing you even more. One thing that should always be understood is that lenders are usually more understanding than you realize. Most are willing to work out a payment plan to help you get back on track. If you owe money and you’re attempting to remedy it and are being met with rudeness and hostility, you can look for options to consolidate the debt, or find another method of borrowing in order to get it out of the hands of those who won’t work with you. Many people will find equity in a vehicle. However, you’ll have to think about how soon you want to make an investment in a home, as taking on a new loan may bring more harm than good.
- Don’t run out and close unused credit accounts
One of the things you must not do is rush to close any unused credit accounts. The reason for this is that it will lower your available credit amount, which will increase the percentage of available credit used on your existing balances. Remember, the usage of your available credit accounts for 30% of your credit score. While you do want to pay off balances on credit accounts, you don’t necessarily want to close them. If you had an old credit card that you cut up or put in a drawer and haven’t used it in ages, don’t close it. It may be helping your score.
The prospect of changing your credit score is often scary and uncertain. However, if you plan a budget and payment schedule carefully, you can increase credit and put yourself in a better position for a home refinance or purchase.