How to Improve Your Credit Score During the Home Buying Process

Your credit score is a simple number that tells a complicated story. A huge part of your financial history — from long-term debt to a few scattered missed payments here and there — can be summarized by this number. This little figure can have a big impact on your life, as it is one of the major factors that your lender uses to determine what loan terms you can qualify for.

You should always be working to improve your credit score, but it’s particularly critical as you start considering homeownership. A better credit score can be a huge factor in determining what types of loans you may qualify for, how low of an interest rate you can get, and even how low your down payment can be.

If you are looking to buy a home in the future, or are already house hunting, increasing your credit score will help you get the loan you need in order to close on the house you want.

What Minimum Credit Score Do You Need for a Home Loan?

A higher credit score is always better, but a less than perfect score typically won’t prevent you from getting a mortgage. The minimum credit score you must have to get a loan will depend on the type of home loan you are looking for. Here are the minimum scores lenders may require to be eligible for the four common types of mortgages:

• FHA Loan: 580+ credit score (500-579 score can be eligible)
• VA Loan: 620+ credit score (some lenders may go down to 580)
• USDA Loan: 640+ credit score
• Conventional Loan: 620+ credit score

However, when it comes to eligibility requirements, check with your lender for more specific information before you apply.

If your credit isn’t quite at these minimums, don’t worry — there are a number of ways you can raise your score and take the next steps towards homeownership.

How to Improve Your Credit Score to Get a Home Loan

There are many different elements that go into creating your credit score. Things like your credit account limits, the amount of secured and unsecured debt you carry, how long you have had each account and your payment history are all recorded as entries on your credit report and these factors contribute to the final number. Since your credit report contains numerous types of information, there are several approaches that you can take toward improving your overall report and score.

1) Pull Your Credit Reports and Fix Any Errors

Your score is determined by the entries on your credit report, so it’s essential to make sure that you know what is on your report, and that the entries are correct. Incorrect, negative entries can drag your score down by no fault of your own. It’s important to check your credit report for accuracy, at least annually. Common credit report errors include:

• Debts or accounts that don’t belong to you being listed on your report
• Accounts that do belong to you not being listed on your report (accounts in good standing help your credit, and you should make sure they are included)
• Accounts being listed more than once
• Old debts that should have been removed but are still listed

If there are errors on your credit report, one of the best ways to improve your credit score is to work with the companies that report errors to get them corrected. You will typically need to contact the credit bureaus with a description of the issue and the evidence you have to support your request. It’s important to start this process as soon as you notice the error, as it can take a month or more to get a response. Your loan officer may be able to help you build a strategy to determine which errors to work on first.

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2) Pay Down Credit Card Balances

Paying down balances may help you in two ways. First, doing so can lower your monthly payments, which can make your debt-to-income (DTI) ratio look more attractive. Your DTI ratio is calculated by dividing your total monthly debt payments by your monthly gross income. DTI is expressed as a percentage, and a lower number is more attractive to lenders: with fewer competing bills, you should be able to repay your loan easily.

Second, it lowers your credit utilization rate, which can make your credit score go up. Credit utilization measures how much of your available credit you are using. For example, if you have a credit card with a $5,000 limit and are carrying a balance of $2,500, you are utilizing 50% of the credit available to you. If you are utilizing nearly all of the credit available to you, there is a good chance that you are struggling financially and may also struggle to repay a loan. This is why lenders prefer borrowers with a lower credit utilization rate.

3) Bring Past-Due Accounts Current

If you have accounts that are late but have not yet gone into collections, making them current can stop them from doing more damage to your credit report. As they transition back into on-time status, your score may stop incurring new damage from those late bills. Address this as soon as you are able.

4) Use Your Credit Cards Less Frequently

Another way to show lower credit utilization is to simply use your credit cards less, unless, of course, you consistently pay off the charges prior to the end of the monthly billing cycle. You can simulate lower usage of available credit by paying them down in the middle of the month. That way your statement shows lower balances.

5) Pay on Time

As always, pay your credit card obligations and any other bills on time. Do not miss any payments during your loan application. Even if you were previously pre-approved for a mortgage, one missed payment could bring your application process to a sudden halt or abrupt end.

A solid history of paying bills on time is a very important part of your credit score, and one of the patterns that lenders look for during the loan application and underwriting process. If you are having financial difficulties now, how will you manage the additional obligations of a mortgage payment, insurance, property taxes and more?

6) Do NOT Close Any Current Credit Cards

This may seem counterintuitive, particularly when compared to the previous advice of using your credit cards less frequently. It’s complicated, but when you close an account, you are reducing your amount of available credit. As a result, you may be raising your debt-to-available-credit ratio. For example, if the total of all your credit card limits is $10,000, and the total of the balances equals $2,000, your ratio will be 20 percent. But, if you decided to close a line of credit with a limit of $6,000, your ratio will be raised up to 50 percent.

It’s also best to avoid closing any current credit account because having open accounts in good standing over a long time helps your credit history and your credit score. Closing long-term, current accounts reduces the amount of positive information on your credit report, and can actually lower your score.

7) Increase Your Credit Limits

Another way to make your credit utilization score look better is to call your credit card lenders and ask for a higher credit limit. If you owe $1,000 on a $2,000 limit, you’re using 50% of your limit; if you can get an increase to $3,500, your utilization drops to 28.6%.

However, be careful doing this as your credit card lender may perform a “hard inquiry” that shows up on your credit report. Each time that you apply for more credit, whether it is a card limit or a loan, the lender will check your credit as a part of their evaluation process. This records a “hard inquiry” or “hard pull” on your credit report.

Ask your lender if this will be the case with your request, and consider it carefully before you proceed. Too many hard inquiries in a short amount of time can lower your score, and it can also make you look unreliable to lenders: Are you struggling to pay your bills and searching for help anywhere you can find it?

Need a financial check-up? Check out these 7 things to evaluate, and get the scoop on your financial fitness!

What to Do if You Have No Credit

Improving your credit score is always beneficial, but where do you start if you truly have no credit? Will you be able to get a home loan if you have little to no credit history? If you have no loan repayment history, lenders may consider you too big of an unknown risk. If you have no credit history, or what may be called a nontraditional credit history — no credit card debt or any other loans — it is still possible to get a home loan, although you may have to investigate a few different options.

Even if you never had a credit card, most people have a history of paying at least some bills, such as rent and utilities, or a car payment. Having a strong payment history with these types of bills can be used to show that you are a reliable borrower, and may even be reported to the bureaus as a part of your credit score.

How to Start Building Credit

Although the options above can provide a viable path to homeownership for many people, you will have more loan products to choose from if you work towards building your credit. Here are three low-risk ways that you can start building a strong credit history.

• Apply for a secured credit card: Secured credit cards are different in that they require a deposit. Like regular credit cards, (and unlike debit or prepaid cards) they can help you build credit by reporting your activity to the major credit bureaus.
• Apply for a credit-builder loan: Typically issued by credit unions, these small loans generally have short (6-24 month) terms. Making these payments on time allows the credit union to make positive reports to the credit bureaus on your activity.
• Apply for department store credit cards: Obtaining a department store credit card may be another way to start building your credit, as some will approve applicants with scores considered far less than ideal, or those with no credit at all. Bonus: you may also receive additional discounts and benefits through holding such an account.

What to Do Once You’re Pre-Approved

You may have done a lot of work improving and building your credit to get pre-approved for your home loan, but your work is not over yet. Your lender approved your specific financial situation, including your credit score, income, debt, amount of credit, and bill paying history. Any changes to these factors can impact the viability of your loan, so keeping them all stable throughout the home buying process is very important. Following the tips below will help during the home buying process:

• Don’t change jobs: If you must make a change to your employment, tell your lender right away. A promotion or lateral move within the same industry may not be a problem, but it’s impossible to know for sure. It’s best to put your job search on hold during the home buying process.
• Don’t take on new debt: Although you may have the desire to go on a shopping spree to furnish your new house as soon as possible, try to avoid large purchases during the process. Taking on any new debt can seriously impact your debt-to-income ratio, which can alter the terms you qualify for on your loan.
• Don’t apply for new credit cards: This can impact your credit score via hard inquiries, and changes your overall financial picture.
• Continue to pay your bills on-time: Missing payments can hurt your credit score, and cause your lender to reconsider making your loan.

A Small Number with a Big Impact

Your credit score is the single summary of countless diverse actions. Each time that you pay a bill on time or resist the urge to go into unnecessary consumer debt, you are making one of many small choices that add up to a big difference in your score. In turn, a high credit score can help make some of life’s biggest financial decisions, such as buying a home, much easier. If you are ready to start exploring your mortgage options, contact a Pennymac Loan Officer or get an online rate quote today.