There are many factors that go into the decision-making process if someone is approved for a mortgage. There are two important factors: your credit score and your Debt to Income ratio (DTI). Some might say these are two most important factors when getting a mortgage.
Having a stronger credit score definitely has its benefits. A higher credit score could earn you a lower interest rate on your mortgage, which saves you thousands of dollars. There are other mortgages that don’t require a stellar credit score and still offer competitive rates such as a FHA or VA loan, but having a higher credit score is better in general.
What is your credit history based on?
Your credit history is based on both your credit report, which is a report that potential lenders use to gain basic information about your payment history, and your credit score, often called your FICO score and is a number that helps lenders decide if they will lend you money for a home mortgage, car loan, personal loan or a credit card. Your credit score is based on payment history (35%), your credit utilization rate (30%), length of credit history (15%), types of credit (10%) and how many times your credit has been checked (10%).
So how do you improve your credit score?
Check Your Report for Errors
First, you want to check your report for any mistakes and getting those removed will help the most. Getting wrong information off your report is the quickest way to increasing your credit score.
Make Payments On-Time
Getting up to date with your payments and consistently making payments on time will help your credit score a lot. If you’ve missed a payment, it will stay on your credit report for 7 years. Making your payments on time will help to offset the damage. Your payment history makes up around 35% of your credit score, so it is important that you don’t have late payments on your credit score. Another 10% of your credit score consists of the types of credit accounts that you have, so having credit accounts is important if you use them responsibly.
Call Your Credit Card Company
One way you could help your credit score is to strengthen your credit utilization ratio. This is the ratio of your debt to the amount of credit you have. The most traditional way is to make payments and slowly pay off your debt, but that takes time. If you don’t have time, you could call your credit card company and increase your limit so that you’re further away from your limit.
Sign Up for a New Credit Card
The last option is unconventional, but it could help get you a good credit score if you use your credit card responsibly and make on-time payments to avoid credit card debt. Different cards offer different rewards for their members. There are travel rewards and cash back rewards, but oftentimes people overlook the balance transfer perks. If you’ve been trying to pay off credit card debt, it can feel like you’re taking 3 steps forward and 1 step back. It feels like nearly a third of your payment goes towards the interest charge.
Balance transfers are often overlooked, but if you’re trying to make a dent in your credit card debt, this could be a solution. I want to stress that this tactic is mainly for the 0% APR balance transfer and I am in no way encouraging you to max out another card. With 0% APR for 15 months, you could pay off a good amount of your credit card debt because all of your money would be going towards the balance. If your credit card balance is manageable and can be paid off in a little over a year, this could be a great tool to get you back up on your feet. I would like to stress that it’s important that responsible money habits come into play. Adding more debt is the opposite of what you want to do and it’ll make things worse.
If you are having trouble qualifying for a credit card, you can look at credit card issuers that have credit card offers for consumers with bad credit. These issuers will sometimes qualify a consumer for a credit card with a low credit limit and this could help boost their credit score. If you have a credit card, make sure you keep an eye on your credit utilization ratio, as your credit utilization ratio accounts for around 30% of your credit score.
Check out credit-building loans or credit accounts
An additional way to build credit is a secured credit card, which is a credit card that is backed by a deposit up-front. The secured card allows you to make a small deposit with a credit card issuer in order to get the card with the credit line usually being the deposit minus any credit card fees. One key is to make sure that the secured card reports into each of the major credit bureaus. These credit bureaus are Equifax, Experian and TransUnion.
Another way is an installment loan that can help you build credit This is where a borrower will add a small amount of money into a savings account and then make fixed monthly payments until it is paid back. Again, the borrower should make sure that the bank where you have the savings account is reporting the payments to the major credit bureaus.
Build credit as an authorized user
One way to help with your credit is to see if a family member will add you as an authorized user on their credit card account. The authorized user can utilize the account, but isn’t required to to pay them back, as it is the primary cardholders responsibility. Another plus is that any negative information can be disputed, as you are not liable for any charges on the account. As the primary cardholder utilizes the account, you can build credit too even if you aren’t using the account at all yourself.
The bottom line
When it comes time to shop for a mortgage, lenders are going to be taking a look at your credit and your DTI ratio. While other factors are involved in decision process, these two are very important. It’s important to make sure you’re in a good financial state when committing to something so serious. Given this, it is very important to monitor your credit score through a free credit score website or through your bank’s own credit score offering. The real key to building credit is to have a great payment record, not acquiring new credit card debt until you can pay it off and making sure that you don’t carry more debt than 10% of your available credit limit. Increasing your credit score can seem like a very long process, but it is a really simple process as long as you truly understand all the levers and have the mentality to make sure you keep up with your personal finances.