Owning a home is the great American dream, but with bad credit, such a fantasy can seem more like a nightmare. Most conventional mortgage lenders will insist upon a credit score above 700 to secure a mortgage. Meanwhile, the FHA offers loans to individuals with scores as low as 540. A low score could require a higher down payment, a steeper monthly insurance rate, or result in declined funds.
If you’re worried about a low credit score standing between you and your dream home, take a look at these helpful tips on how to repair your credit and budgeting before applying for a mortgage.
Know Your Score
Every 12 months you are entitled to a free copy of your credit report. Equifax, Experian, and TransUnion are the three credit bureaus that offer access to this information. It is important to check each of these, as not all accounts report to the bureau. Keep in mind, you’ll want to make this inquiry atleast 6-9 months prior to applying for a mortgage. This will allow you to repair any issues and set aside time for the bureau to reflect those improvements. Late payments, bills that went to collection, and other derogatory items should be dealt with accordingly.
Scrutinize your credit report for errors. If the document fails to report paid bills or collections, you need to file a dispute as soon as possible. If you notice any unknown accounts or activity, you may be a victim of fraud or identity theft. If the resolved issues fail to make it onto your credit report in time, you can apply for a letter of goodwill from the credit institution. Such documentation lets your mortgage lender know the issues are outdated or resolved. Whatever you do, check your report at least once a year, as some issues have a statute of limitations.
Keep the Old
Good standing, older credit lines are a great asset. A long history of outstanding credit looks good to lenders. Plus, since closed credit cards remain on your credit report for up to a decade following the closure, eliminating a card you no longer use or with an imperfect account record isn’t going to work in your favor. Moreover, an available but unused credit card can improve your balance-to-limit ratio.
Optomise Your Balance-to-Limit Ratio
Your balance-to-limit ratio reflects what portion of your available credit you are utilizing. In most cases, lenders look for applicants who have a 15% or less ratio. If you can stretch your limits prior to applying for a mortgage, a 10% ratio is even better. Overall, lenders don’t want to see clients who are overextending themselves. At the same time, suddenly opening an extra line of credit to boost your current ratio isn’t going to work either. Each time you apply for a line of credit your report shows a hard inquiry. Too many of these and you’ll likely see your score drop.
Balance Your Debt-to-Income Ratio
Another important factor in approving your mortgage is your debt-to-income ratio. You want this number to be right around your balance-limit ratio. While it is tough to skew the numbers, reducing your spending and limiting large purchases will work in your favor. Use an online calculator to determine your ratio and then make a plan to chip away at your debts or reduce your annual spending. After you’ve purchased your home, this number will rise significantly. However, once you’ve secured a mortgage, you won’t have to play it as tight.
Make Wise Decisions
This last step is an obvious one, but still worth noting. Adulting isn’t always easy and it often means sacrificing a fun purchase for security or, in this case, a permanent home. If you’re ready to enter the world of homeownership, you probably already realize this. However, a hard look into your personal finances can be a healthy reminder to plan for the future. Moreover, you may want to seek the guidance of a professional financial advisor, who can help you to better organize your money.
Securing a mortgage is imperative when it comes to purchasing your first home, but, for many, sub par credit can stand in the way. By taking the time to fix and maintain your credit history, you’ll be on the road to homeownership and a promising financial future.
Jessica Kane is a professional blogger who writes for Faxage a leading company that provides Internet fax service for individuals and businesses.