Are you looking to bag the perfect home during house hunting season? Peak home buying season takes place during the spring and summer months, but a successful hunt takes preparation. One of the most important steps to undergo before shopping for your next home is to review your credit report and credit score thoroughly. With so many buyers in the market, peak house hunting season is competitive. So, we are going to give you an edge up on the competition by sharing important credit score tips to know before you begin your search.
Building a Credit Score
When it comes to lending, everyone has a number, and you want to have a high one if at all possible. Building a strong credit score before buying is critical and can potentially save tens of thousands over the term of a mortgage. It could even make the difference between approval and denial. That’s why it is important to understand credit up-front. Credit scores are made up of the following areas:
35% payment history
Paying debts on-time is key of course. This is the one that everyone knows. Thus, get a higher score with great payment histories.
30% balance to credit limits on revolving accounts
This is the one that most do not know, and we probably tell clients about this daily. It’s evident that late payments will lower a score, but the huge effect of a $450 balance on a $500 limit surprises most.
15% Length of credit
The longer credit is open, the better. Therefore, it is important to establish credit early in life.
Furthermore, when it comes time to close older accounts, it is important to consider the effect on this portion of a credit score.
10% Type of credit
Type or mix of credit also plays a role in credit scoring. Many say that the best mix of credit would include 2 – 3 credit cards, an installment loan, and a mortgage. It is also important not to have too many finance company loans. One, maybe two finance loans with established credit should be okay.
10% New credit
This includes credit inquiries and the amount of recently opened accounts. Pulling credit is fine, but when it gets excessive it can hurt a score. Back to back credit inquiries for a mortgage are counted as one. Additionally, car loan inquiries are treated the same over a 2 week shopping period. Overall, just make sure that any inquiries are worth it!
Knowing these credit score factors will help you prepare for house hunting season in many ways. Based on the above, it is known not to add new debts, keep card balances low compared to limits, keep inquiries to a minimum, and pay all bills on time. In addition to these areas, there are some huge deal killers out there!
These Errors Can Kill a Credit Score Before Buying
So often we see buyers make mistakes just before buying that can kill credit scores. At first glance, most think these shouldn’t matter much, but they do. No matter what, don’t do the following prior to or during the mortgage process:
- Closing an old credit card account
- Paying a small payment late
- Paying off collections
- Open new credit accounts
- Increase credit card balances
Closing Credit Card Accounts
30% of a credit score is based on balance compared to credit limits as a percentage. Therefore, closing an old, paid off credit card could have a negative effect over time. Now, it is important not to have too many credit cards, but making the decision to close older credit card accounts should be done after a home purchase. Do you need a bump in credit scores and have an old credit card? Check out “What to do with those old credit cards that could help your scores.”
Paying Anything Late
Recently, we had a buyer miss $15 monthly payments on two credit card accounts, and the scores went down about 100 points. Keep in mind that no matter how small the payment, it will affect the credit scores just as much as a sizeable late payment. If a late payment is coupled with a maxed out credit card, the scores will dive even lower!
Don’t Pay Off Collections
This is one area that would make sense to do. Paying off a collection would be good right? Often the answer is no! This is especially true for older collections. If the collection is paid off and not deleted, the date of last activity would be now. This means the credit bureaus will act as if the collection just happened. This is another area that can drop a score dramatically. Therefore, if paying a collection is necessary it is often best to pay it off at closing. Then, the score is not affected prior to closing.
Do Not Open New Accounts
While buying a new car or truck is very common before purchasing a home, it could create a few problems. First, if the payment is larger than a prior vehicle, there could be a debt ratio problem. It is even worse when there wasn’t a car payment before the new one. Next, there are the credit inquiries. Inquiries for vehicles, cards, or other debts could combine to lower credit scores.
Increasing Credit Card Balances Hurts A lot
As mentioned above, 30% of a score is the balance compared to credit limits on revolving accounts. Therefore, increasing a balance before a purchase could be detrimental. Let’s say a credit limit is $1,000 and it had a prior balance of $100. This scenario would be great for scores because it is 10% of the limit. Although, increasing the balance to $900 could hurt a credit score dramatically.
Are You Ready To Go House Hunting?
Buying a home has several key steps, and as you can tell, credit scores are an important portion of it. As little as 20 points could improve an interest rate. Technically, one point could mean the difference between approval and denial. Hopefully, this has provided key “Do’s and Don’ts” related to a credit report and qualifying to buy a home.
As house hunting season nears, there is no better time to understand and follow these steps. To create a smooth home purchase during peak season, make sure to consult an expert OVM Financial loan officer as early as possible. We will help you master the credit score improvement season!