There’s a lot of available information on the internet about credit scores and home loans. Unfortunately, a lot of it is wrong. This blog post will set the record straight on some of the most common myths about credit scores and home loans.
You’ll also find tips for improving your credit score to get your mortgage’s best possible interest rate. Read on to learn the truth about credit scores and home loans.
What Credit Score Do Lenders Use?
Lenders look at multiple credit scores when considering a home loan application. The most common credit scores used are from the FICO® Score 8 model. However, some lenders may also use scores from the VantageScore® 3.0 model.
The FICO® Score 8 is the most widely used credit score, and it’s what this blog post will focus on. The FICO® Score 8 ranges from 300 to 850, with scores of 800 or higher considered excellent.
The FICO® Score 8 is based on five key factors:
- Payment history (35%)
- Amounts owed (30%)
- Length of credit history (15%)
- Credit mix (10%)
- New credit (10%)
Payment history is the most important factor in a FICO® Score 8. Lenders want to see that you have a history of making on-time payments
What Credit Score Do I Need?
A good credit score is generally considered to be a score of 700 or higher. That being said, you can still qualify for a home loan with a lower credit score. The interest rate will just be higher.
If you have a credit score below 620, you may still be able to qualify for a home loan through special programs like the FHA Back to Work program.
The minimum credit score for an FHA loan is 580, but borrowers with credit scores of at least 620 can qualify for better interest rates. Borrowers with credit scores of 720 or higher will usually get the best interest rates on a home loan.
What’s the Difference Between a FICO® Score and a VantageScore®?
The main difference between a FICO® Score and a VantageScore® is that more lenders use the FICO® Score. The FICO® Score is also based on a longer credit history than the VantageScore®, which makes it a more accurate predictor of creditworthiness.
The VantageScore® 3.0 ranges from 300 to 850, just like the FICO® Score 8. However, the VantageScore® 3.0 is based on six key factors:
- Payment history (40%)
- Age and type of credit (21%)
- Utilization (20%)
- Balance (11%)
- Recent behavior (5%)
- Available credit (3%)
Payment history is still the most important factor in a VantageScore®, but it’s worth slightly less than it is in a FICO® Score.
The bottom line is that lenders use both credit scores to assess risk. A higher score means a lower risk of default, which translates into a better interest rate on your home loan.
How to Improve Your Credit Score
You can do a few key things to improve your credit score. First, make all of your payments on time. Payment history is the most important factor in a FICO® Score, so this is crucial.
You should also try to keep your balances low. The amount you owe makes up 30% of a FICO® Score, so keeping your debt-to-credit ratio low is important.
Finally, try to diversify your credit mix. This means having different types of debt, such as revolving (credit cards) and installment (student loans). This shows lenders that you can handle different types of debt responsibly.
Improving your credit score takes time, but it’s worth it in the long run. A higher credit score will get you a lower interest rate on your home loan, which can save you thousands of dollars over the life of the loan.
Debunking Common Credit Score Myths
There are a lot of myths about credit scores. Let’s debunk a few of the most common ones:
1) “Closing old credit cards will improve my score.”
This is false. Closing an old credit card will not improve your score. It may hurt your score because it will lower your credit-to-debt ratio.
2) “I need a perfect credit score to get a great interest rate.”
This is also false. You don’t need a perfect credit score to get a good interest rate. A score of 700 or higher is considered good, and you can still get a decent interest rate with a score in the mid-600s.
Ask your lender where you need to be to get the next lower interest rate. It might be worth improving your score a few points before applying for a home loan.
3) “I can’t improve my credit score.”
This is false. There are lots of things you can do to improve your credit score. This article has already discussed a few of them, such as making on-time payments and keeping your balances low. You can also try to diversify your credit mix and avoid opening too many new accounts at once.
4) “I need a high income to get a good interest rate.”
Nope! Your income doesn’t factor into your FICO® Score. However, lenders will look at your income when you apply for a loan to make sure you can afford the payments.
5) “I can get a perfect score by paying off all my debt.”
Paying off your debt will help your score, but it’s not the only factor lenders look at. Your payment history, credit mix, and credit utilization are all important factors in your FICO® Score.
Bottom Line
The bottom line is that there’s no magic formula for improving your credit score. It takes time and effort, but it’s worth it in the end. A higher credit score will get you a lower interest rate on your home loan, which can save you money over the life of the loan.
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