Your credit score is one of the most important factors home mortgage lenders consider when you apply for a mortgage loan. Overall, the higher your score, the lower interest rates you’ll receive. The difference of 100 points in your score can cost you hundreds of dollars each month on your mortgage payment and tens of thousands over the life of your loan. Let’s look at how your credit score will impact your dream of owning a home — or refinancing the one you already have.
Why does your score matter to lenders?
Your credit score is a measure of how reliable and capable you are of paying back debt, which matter a great deal to lenders. They want to make safe bets and extend credit to people who have a record of on-time payments and the capacity to repay them (in other words, who don’t have a high debt-to-income ratio). A higher score reassures them they’ll be paid back. Check out this post to learn more about how your credit score is calculated.
What’s a “good” score?
Credit scores range from 300 to 850. Each creditor has its own standard of what qualifies as an acceptable score and an excellent score. However, here are a few general guidelines:
· A score of 800 or higher is considered exceptional.
· 740 or higher is considered excellent.
· A score between 700 and 739 is classified as good.
· 630 to 699 is considered fair credit.
Scores of 629 and below are considered to be poor credit. Individuals with scores below this number will have difficulty qualifying for traditional mortgages. It may not be impossible to purchase a home with this score; however, you can certainly expect to pay the highest rates. In other words, your mortgage will be much more expensive than if you had a higher score.
Let’s compare a couple of scenarios to see how this plays out.
Scenario #1 – Monthly Payments
Suppose a borrower is looking to purchase a $300,000 home over a 30-year, fixed-rate loan. She has saved a 20% down payment, so she’s only going to finance $240,000. She has achieved an excellent FICO score of 780 and is able to earn a 4% interest rate on her loan. That comes out to $1,164 a month, excluding property taxes or homeowners’ insurance. If the same borrower’s credit score drops 100 points, her rate might increase .5%. It doesn’t seem like much, but her monthly payment would increase to $1,216. That’s an extra $62 a month or $744 per year. A lower credit score causes your monthly payment to increase, which means more money out of pocket on a regular basis. It also affects how much you pay over the life of the loan.
Scenario #2 – Life of the Loan
In this scenario, let’s consider a borrow who’s looking to finance $200,000 over a 30-year, fixed-rate loan. If he were to have an excellent credit score of 820, he may qualify for a low interest rate of 2.5%. Over the 30 years of the loan, he’ll pay $87,378 in interest. If his credit score drops 200 points, say due to late payments or a high debt-to-income ratio, his interest rate will likely increase to more than a point or up to 1.5 points. At this interest rate, he can expect to pay more than $150,000 in interest over the 30 years of the loan. He’s paying almost as much in interest as he’s borrowing for the principal of the loan. In short, it costs a lot more to borrow money when you have a lower credit score.
It’s to your advantage to have the best credit score possible when applying for a mortgage or mortgage refinancing. If you have an impaired credit score, you may want to work on improving your credit history in the months before applying for a loan. If you already have a good or excellent score, you should try to maintain your good score. For example, don’t apply for other new loans, which will shorten your average credit history and thus your score. Our mortgage lenders are more than happy to discuss how your credit score may affect your rates as you pursue your dream of home ownership — or a lower rate on the one you already have.