As we talked about in part 1 of our credit and mortgage series, your credit score is a big part of the mortgage process, but it’s not as hard to understand as you might have thought. Before you read here, pop on over to that post to get the details on what a credit score is, what is important to a credit score, and what your number means to apply for a mortgage.
So now that you have an understanding of the basics of a credit score, what do you do once you’re ready to apply for that mortgage?
Basically, you need to learn a few ratios, pay attention to your bills, and be as financially predictable as possible.
Here are the details:
- DON’T take on additional debt.
This has everything to do with how much debt you’re paying off each month in comparison to how much money you’re making. This is called your debt-to-income ratio. Lenders look for a debt-to-income ratio of under 43% in order to consider you a less risky investment. So, if you take on new debt, you’re messing with that ratio, making it less likely that they’ll take you on as a borrower.
- DON’T max out your credit cards.
Ready for another fancy ratio? Your credit card spending has a credit utilization ratio (or a debt-to-credit ratio). This ratio defines how much credit you have used in comparison to your credit limit. For example, if you’ve charged $2,700 to a credit card and you have a $5,000 credit limit, your debt-to-credit ratio is 54%. Lenders prefer that percentage to be under 30%. However, it really is best if you can keep it as low as possible to keep the lenders happy.
- DON’T close a credit card account.
This one may feel like the opposite of common sense, but, again, it involves a ratio — the same debt-to-credit ratio that we just mentioned. If you have a credit card you don’t use much, the high amount of credit (vs. the low amount of debt on the card) boosts how much total credit you have and makes your debt-to-credit ratio lower. To say another way, if you closed that credit card, you reduce your level of total available credit, so now your total debt amount is higher, compared to your total credit amount. Make sense?
- DON’T get a new job.
You may have the worst job in the world, but, if you want to get into a new home, you’ll have to suck it up until closing day. Your lender needs to know you have a steady income to pay your mortgage. And, even if a new job will offer you more money than you have now, the lender needs proof via history (and lenders are big fans of a lot of history) of payment from your current employer.
- DON’T make any big purchases.
A new car, shiny appliances, a big vacation, etc. all reduce the cash you have in your bank account. When you apply for a mortgage, your lender is going to want to see that you have all the cash you need for the down payment, closing costs, and insurance. So do your best to leave whatever nest egg you have alone until you’re in your home. Besides, if you had to take out any new loans or use a credit card for the purchase, your credit score would most likely be negatively affected.
- DO pay your bills on time.
One of the biggest pieces of your credit score (upwards of 35% of your number) is your ability to pay your bills on time. It’s the best information a lender has to know if you will be a good borrower and provide them with a return on their investment in a timely manner. So do whatever you need to do to hit your due dates every month.
- DO hesitate before co-signing on someone else’s loan.
Think very carefully before agreeing to co-sign a loan for someone else. Even if it’s someone you trust or a family member who is close to you, you become partially responsible for that debt, and your credit score is now linked to the borrower’s ability to pay off that debt. If they have even a little bit of trouble, it could jeopardize your ability to get into a home.
- DO talk to your lender before making a big deposit.
Having someone help you out with your down payment can be a huge gift. However, having any unusual deposits can look unpredictable (and therefore, suspicious) to a lender. Your lender can help you properly document your deposit and make sure that it’s been in your bank account long enough to help them feel comfortable with your financial situation.
- DO wait to make any financial changes.
Once you’ve been pre-approved, WAIT before you move money around or change the way your finances look until after you get your mortgage. Your lender is making a decision based on your financial situation at that moment and is trusting that it won’t change. If you start shifting stuff around, that trust evaporates and you’ll have some explaining to do.
In the end, you want to look as financially solvent and steady as possible when applying for a mortgage. That means you need to do your best to keep your expenses low, your debt stable (or, even better, lowering), and your finances reliable.
If you have any questions (or need help with all those ratios), we’d love to connect with you! Contact one of our accessible and knowledgeable lending staff and we’ll do all we can to get you on the right path to the mortgage for you.