Home ownership remains a long-standing dream for many people, and most prospective homebuyers require financing - normally, in the form of a mortgage - in order to achieve this goal. Did you know that your credit score is among the key factors used by mortgage lenders to determine your interest rate and payment terms? Here, we take a look at credit score and how it weighs in on your mortgage payment.
What's Your Credit Score?
Essentially, a credit score is a number used by lenders to determine how likely you are to pay back a loan. Credit scores generally range from 300-850, and they are calculated using information contained within your credit reports. Most lenders view higher credit scores more favorably than lower credit scores as they indicate greater likelihood of payback; therefore, it is in your best interest to boost your credit score as high as you can before you apply for a mortgage.
How Is Your Credit Score Calculated?
Components of your credit score include whether or not you pay your bills on time (i.e. payment history), the total amounts owed (usually, as a percentage of credit outstanding), the length of your credit history, how much of your credit is new and the types of credit used. Have a look at the chart below, which breaks down each factor's weight in the calculation of credit score. As you can see, your payment history accounts for 35% of your credit score, which makes it the most meaningful component of your credit score.
|Length of Credit History||15%|
|Types of Credit||10%|
How Does My Credit Score Determine My Mortgage Payment?
To put it simply, the higher your credit score, the lower your mortgage interest rate. Several online loan calculators illustrate this point; using the MyFico.com loan calculator, we see how borrowers with a credit score ranging from 760-850 merits around 3.55% mortgage interest rate on a 30-year fixed-rate mortgage, whereas borrowers on the lower end of the credit score spectrum see less desirable interest rates (e.g. a borrower with a credit score ranging from 620-639 might see his/her interest rate at about 5.139%). Of course, this example is presented for illustrative purposes only; the best way to determine your mortgage interest rate is to speak with a mortgage lending professional.
|Credit Score||Interest Rate||Monthly Payment||Total Interest Paid|
|Source: MyFico.com Loan Savings Calculator; rates based on national averages, assumes $100,000 loan principal, 30-year fixed-rate mortgage.|
How Do I Improve My Credit Score?
To improve your credit score, it is important that you pay all of your bills on time. Recall that payment history is the largest determinant of your credit score; therefore, any missed or late payments are sure to harm your credit score.
Amounts owed on existing credit lines also factors into your credit score (30% weighting). Your credit score will likely improve if you lower your credit card balances ("maxed out" credit cards tend to negatively affect your credit score). Paying off debt and not opening new credit card accounts may also help your score.
The Bottom Line
Home ownership is possible, and your credit score is an important factor when it comes to determining your mortgage interest rate. Aim for the highest credit score possible, and your mortgage terms are likely to be more favorable. Good luck.
SavingsOwning a home isn't easy thanks to stringent lending standards. Thankfully, there's ways parents can help their kids buy a home.
Credit & LoansIf you are underwater on your mortgage, this program may be just what you need to help build up equity in your home.
InsuranceThis costly coverage protects your mortgage lender - not you.
Credit & LoansThese terms may sound the same, but they mean very different things for homebuyers.
Home & AutoRestrictive rules and high fees are just some of the things to watch out for before joining an HOA.
Credit & LoansAdjustable rate mortgages can save borrowers money, but they can't go into it blind. In order to benefit from an ARM, you have to understand how it works.
SavingsLearn 10 key habits for achieving financial freedom, including smart budgeting, staying abreast of new tax deductions and the importance of proper maintenance.
Credit & LoansIt'll cost you more, but borrowing is definitely doable. Here's how to proceed.
TaxesThe earlier you start preparing your tax records and documents, the more likely you are to have a smooth tax return experience – and all the tax benefits you're due.
InvestingHere are the best tips for raising your credit score quickly.
Federal Housing Administration (FHA) loans were created to promote homeownership. These loans have lower down payment requirements ... Read Full Answer >>
he When you make a down payment from 3 to 20% of the value of your home and take out a Federal Housing Administration (FHA) ... Read Full Answer >>
It is possible to get a free credit report from Equifax, as well as the other two major credit bureaus, Experian and TransUnion. ... Read Full Answer >>
Free credit reports do not impact your credit score. Credit inquiries are divided into two categories: soft inquiries and ... Read Full Answer >>
The free credit reports available from the three credit reporting agencies do not include your credit score. Under the 2 ... Read Full Answer >>
Getting a free credit report can be safe if you are careful about the particular website from which you get it. Credit reports ... Read Full Answer >>