If you’re thinking about buying a new home or refinancing your mortgage, there’s no better time than now to start preparing your finances. Lenders will be looking closely at your payment history, how much debt you have relative to your earnings, and your employment history, among other things.
Building up your credit history does take some time, but there are a few ways to work towards getting your credit score in shape so you qualify for a mortgage — and maybe even a lower interest rate.
Get Your Credit Report and Dispute Errors
Mortgage lenders will typically look at your credit reports from Equifax, Experian, and TransUnion, the three national credit-reporting bureaus. They will also pull credit reports if you’re co-applying for the mortgage. Since these reports form the basis of your credit score, getting copies of them is a good initial step on your homebuying journey.
It’s definitely worth reviewing your own reports. In one study, the Federal Trade Commission found that one in five consumers had an error on at least one of their three credit reports that was corrected after a dispute. The study also found that 20% of consumers who identified errors on one of their reports experienced an increase in their credit score.
Federal law requires each of the credit reporting bureaus to provide you with a free copy of your credit report, at your request, once every 12 months. You can visit AnnualCreditReport.com to get your reports rather than contacting the companies individually.
Here are some common errors to look for:
- Incorrect, duplicate, or fraudulent accounts (from identity theft)
- Incorrect identity information, such as name misspellings, and incorrect addresses or phone numbers
- Incorrect account statuses (any accounts open that you closed, incorrect reports of late payments or delinquencies, or outdated information, such as negative items more than seven years old)
- Information or accounts from an ex-spouse
Pay Your Bills on Time
Among the most influential factors when it comes to calculating your credit score is your payment history. Avoid making late payments on your credit cards and other loans, which typically means making sure to pay within 30 days of due dates.
Given that payment history accounts for approximately 35% of your credit score, a misstep here could have a significant negative impact. If your credit score is already close to or within qualifying range, poor payment history could be a major blow to getting into a new home.
Pay Down Credit Card Debt
Mortgage lenders and the credit reporting bureaus also pay close attention to your credit utilization ratio. A popular rule of thumb is to keep this ratio below 30%, and some experts say the lower the better. By way of example, $3,000 in outstanding credit card debt on all of your accounts, from $10,000 in available credit, equates to a 30% utilization ratio.
If you have the financial flexibility to pay down some or most of your credit card debt, it may take some time before the impact of your payments shows up on your reports, and thus, your credit score. Credit card companies generally update your balance information with the three bureaus every 30 days, at the end of your billing cycle.
Request an Increase in Your Credit Limit, if Appropriate
Only consider requesting a credit limit increase if you have a history of responsible spending and payment history on your credit cards, and your credit utilization ratio is already low.
The math behind a credit limit increase is that it lowers your credit utilization ratio — meaning, your outstanding balance remains the same while your available credit limit rises. Closing accounts, on the other hand, could raise your ratio and potentially hurt your credit score if your balance doesn’t change relative to the lower available credit amount you would have.
It’s important to know that there may be a trade-off to requesting a credit limit increase. The bank that issued your credit card might run a check on your credit, resulting in a “hard inquiry” that can lead to a temporary decrease in your credit score. However, some lenders will simply review your account before deciding whether to grant your request. This can show up as a “soft inquiry” on your credit report that won’t affect your score.
Speak with your mortgage lender about your revolving debt and what steps you’re taking to keep it in check. They can run the numbers on how your actions may influence your credit score and your debt-to-income ratio (DTI) – a personal finance measure that weights your monthly debt payments against the money you bring in.
Talk to Your Lender
Your loan professional can help you understand what it will take to qualify. Some lenders have access to tools that can be used to simulate how certain actions might impact your credit score. Your lender may choose to do what’s called a rapid rescore -- a service done on your behalf, potentially for a fee, that can result in quicker updates to your credit reports.
You and your lender may also work together to expedite disputes of inaccurate information on your credit reports with Equifax, Experian, and TransUnion. Depending on the bureau, this process may allow for a rescore of updated credit information within 72 hours or less.
It’s important to work with your loan professional to determine which tools may be worthwhile for your particular situation.
