Your credit score can make or break your real estate dreams as a first time home buyer. Especially with the stress test looming overhead while you’re scrambling to get your savings together for a down payment. Mortgage lenders always will review your credit score before pre-approving you for a mortgage for a few reasons.
- So that they know you can afford your mortgage.
- So that they know if you’ve had trouble paying off debt in the past.
- So that if they do lend you the money for your mortgage, they know you’re likely to pay them back as agreed upon in your mortgage contract.
It’s true, mortgage lenders can be a little picky when it comes to agreeing to lend out large amounts of money for homes. But, if it were your money you were lending out, wouldn’t you want to make sure you would get your money back eventually too, with interest so that it was worth your while to lend it out in the first place? Let’s look at how a credit score is calculated and what you can do to improve it before you apply to get pre-approved for the mortgage you want to fuel those real estate dreams.
To calculate your current credit score in basic terms (as the national companies that actually calculate credit scores use fancy algorithms which can get pretty complicated) there are 5 areas of your financial life that your credit score is based upon.
- The lifespan of your credit
- Your payment history
- The number of inquires into your credit history
- Public records
- The amount credit you have available vs how much of that credit you’ve used
First off, let’s talk life span.
The lifespan of your credit history is a summary of things like how long you’ve had a bank account for, how much money is in that account, how many times you’ve been in overdraft, how many credit cards you’ve had in the past and how long you’ve had them for.
For example, the longer you’ve had a credit card for, the longer your credit history will be.
The reason why they look at your credit history like this is to see how much money lenders have given you in the past, and how much money they’re willing to give you now to help decide if you’re trustworthy being responsible for a large mortgage loan.
Tip #1 – if you’re wanting to get pre-approved for a mortgage as a first time home buyer and have never had a bill in your name for something like hydro or a cellphone, and you’ve never had a credit card in the past. Applying for one a year or so in advance of applying for a mortgage will help create a credit history in the financial system for you. It doesn’t mean you won’t be able to get a mortgage if you don’t have one, it just means it will be a zero in your credit score calculation if you don’t.
Next your payment history
If you’ve been given a credit card or a line of credit or even had a cellphone bill in the past, they want to know how long you’ve been trusted with those loans and whether or not you’ve been able to make your payments on time paying them back. Have you missed payments, have they forcefully closed your account because you weren’t able to make the payments. Knowing details like this gives lenders confidence in your ability (or not) to pay back the mortgage loan you’re requesting. If you can’t pay a $40 per month phone plan, it’s likely you’re not going to be able to pay back a $400 per week loan either.
Tip #2 – think back to all the bills you’ve had in the past, are there any you have missed making payment on that are still outstanding? Did you forget to return that internet box to the phone company so they keep sending you a bill asking for you to pay for it or to return the box you no longer have? Doing a thorough review to triple check that there are no skeletons in the closet that could pop up, will make sure no red flags are raised when the lender looks at your credit score.
They also look at how many times your financials have been looked into in the past
The more companies and corporations that have looked into your credit history the worse off your credit rating. For example, say you’ve really wanted to buy a car in the past 2 years but never were approved for the loan to buy that car for one reason or another, but you still went from dealership to dealership trying to swing a deal. It’s easy enough to happen, but things like that create red flags in the world of credit scores with multiple inquires into your history.
Tip #3 – When you apply to get pre-approved for a mortgage DON’T go asking for other loans. Hold off on taking out a new line of credit, a business loan, leasing, or buying a car. This is a common mistake people make when applying for a mortgage as each company or bank you ask for credit from shows up on your credit history and multiple check-ins over a short period of time could make it look like you were turned down from other lenders for one reason or another. That’s not necessarily the case, but you don’t have the opportunity to explain the situation or multiple requests to the lender when they review the records either.
Those pesky financial robots will look at public records too
A public record is basically a notation of whether or not you’ve claimed bankruptcy before if you’ve had any bills turned over to collection agencies, or anything else negative that could have an impact on your financial well being in the past. For example, if that bill we mentioned above as an example not having been paid, was turned over to a collection agency and you’ve had creditors calling you every week to get you to pay off the amount owning, that’s going to leave a mark on your credit score.
Tip #4 – If you’ve claimed bankruptcy in the past, especially if it’s been recent, you may want to secure a trustworthy co-signer, and make sure that you have strong faith in your ability to make the payments on the loan you’ve asked that person to co-sign. The reason being is that if the primary person who holds the mortgage, defaults (meaning they miss a payment) the co-signer is legally on the hook to make that payment for them. And, if you are the co-signer that someone has asked to take on that responsibility make sure you’re really able and willing to be their financial backup long term. It’s not a lightweight request.
Lastly, they’ll compare the amount of credit banks and lenders have been willing to give you to date vs. the amount that you’ve spent.
Comparing the amount your owe currently vs. how much you could have spent but haven’t yet, shows them your ability to manage money. Now, that being said, we’ve all maxed out a credit card now and again, especially at Christmas or while on holiday which isn’t what will cause alarm, the red flag pops up, however, when they notice you’ve maxed it out, and haven’t paid it back in a long time.
Tip #5 – Make sure that you have credit that you have used, AKA debts paid down as much as possible before applying for a mortgage and if you can’t pay them off or down quite a bit before applying for a pre-approval, you may want to wait a few months until you can, in order to have a better credit rating at the time your application is being reviewed.
Buying a home is exciting whether it’s your first home or the 5th you’ve owned in your lifetime however, being turned down for the mortgage you want to buy that piece of real estate is not. That’s why keeping an eye on the real estate market, and an eye on your credit rating is the best yin and yang to aim for. Everyone has ups and downs financially but how you manage those ups and downs and how much you have set aside as a safety net is really what’s important long term. In fact, if you’re planning on buying a home in the next month, 3 months, 6 months, or even year, give me a call today, and let’s take a look at your financial positioning to make sure you’re on track to achieving your home buying goals. If you are, we can secure you the pre-approval you need so you know exactly what price bracket to look for homes in, and if you’re not we can make a financial plan that will get you there. Just give me a call at 705-315-0516 and let’s get started virtually!