Deciding to buy a home is a major milestone. If you’re walking down that road, first let us say congrats! It’s a journey that you should embark on as prepared as you possibly can be. You want to make sure you’re budgeting and saving, and taking part in any programs that can help you out if you are a first-time homebuyer. Because while the process is never going to be perfectly seamless, it can be so much easier if you go into it with eyes wide open. One of the first preparation steps you might take (other than viewing some beautiful homes!) will be to apply for a mortgage preapproval. But what happens when you apply for a home loan and you’re denied based on your credit and credit history? You might need to improve your credit score to buy that home.
If you’ve been monitoring your credit for a few years, you know how your score can impact your life’s journey when it comes to things like getting a new credit card, getting a car loan, buying a home, or taking out a business loan. However, if you are new to the world of loans, you may need a rundown of what a credit score is, and how it can affect your lending options. Since March is Credit Education Month, it’s the perfect time to dive into credit scores and how they can impact your journey to homeownership.
What makes up your credit score?
If you’re an applicant who gets rejected when you apply for a loan, lenders must give you their reason(s) for rejecting your loan. For example, they may say something like: “too many open accounts with high balances,” or “not enough of a credit history.” When you get the reasoning for loan denial, it’s important that you reflect on those results and determine what you can do to make a change. Knowing what you need to work on when it comes to your credit score starts with knowing what actually makes up your credit score. Five areas that impact your score are:
Payment History (35%): Your payment history is exactly what it sounds like — have you been paying your bills on time and paying the due amount in full? As you miss payments or make payments below the balance due, your credit score is negatively affected.
Amounts Owed (30%): The amounts owed section is particularly crucial during any loan approval process since creditors look at your outstanding balances and compare them to the money you make each month to determine if you can actually afford to have another loan.
Length of Credit History (15%): The length of your credit history gives people an understanding of your credibility as a borrower. If you are a new borrower, your shorter history will help creditors understand why there isn’t much to your credit report. When you have a longer credit history lenders will look for any negative actions on your credit report, such as missed payments or delinquent accounts.
New Credit (10%): The new credit section of your score comes from creditors wanting to see if you open too many accounts too quickly. As a new or seasoned borrower, taking out multiple loans in a short amount of time could be a red flag to lenders.
Credit Mix (10%): Having a mix of loans that you’re successfully paying off each month — like credit cards, car loans, and/or student loans, reflects well on your as a buyer. Lenders want to see that you’re able to maintain a variety of loans and pay them off every month.
Keep in mind that all of these aspects of your credit work together, so it’s important to know that when you start to work on one aspect of your credit score, your efforts will help impact the entire picture.
How to know you’re making a difference
Identifying how to improve your score to buy a home is only the first step in this process. Once you start making the right changes, keep track of how your score is improving. There are a few ways you can frequently check on your score. Many free budgeting apps include a credit score feature, you can visit freecreditreport.com, and you may have a free credit score check by FICO included in the perks of a credit card you have in your wallet. Check your card’s fine print to see if you qualify.
If you’re trying to fix things like delinquencies or missed payments that have already popped up on your report,, consider checking on your report quarterly to see what lenders see. You can request a free copy of your credit report from all of the major credit reporting bureaus once a year, which allows you to see if there’s anything inaccurate on your credit report that needs to be disputed or removed. Being aware of what’s on your credit report will also help you with lenders, allowing you to explain any previous delinquencies or negative citations in hopes of securing your loan approval.
READ MORE: 14 First-Time Homebuyer Mistakes To Avoid
Making actionable and lasting changes to your credit takes time and effort. Maintaining a healthy credit score and history is truly a lifelong skill to master, and everyone makes mistakes. Strengthening the areas of your credit that have been hit the hardest can help you on your journey to homeownership, and provide lenders with proof that you are putting in the work and advocating for your credit health. You got this!
MORE ON HERMONEY:
- How Many Credit Scores Do I Have?
- 4 Easy Hacks to Increase Your Credit Score
- If Your Credit Score Is Under 700, Make These 5 Moves ASAP
- How to Get a Free Credit Report Every Week
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