If buying a home is in your future, you need to take a careful look at your finances now – well before you begin looking at homes. Life is full of surprises but you don’t want to find one in your finances!
Don’t leave your ability to qualify for a mortgage to chance; putting in the work now can mean big savings when you finally purchase your home. Here’s how you can prepare your credit for a mortgage.
Check your credit
The first step is checking your credit report and score. There are three main credit bureaus lenders use to review your credit – Equifax, TransUnion, and Experian. You’re entitled to a free copy of your report from each company once every 12 months through AnnualCreditReport.com.
Request a report from each bureau; it’s a good idea to also request your FICO score from each one as well (heads up, this may incur an additional fee but it’s a good idea since lenders look at those scores when reviewing your application). Don’t worry if there are some minor differences between reports. Each report is updated on different schedules so the information may not all be the same.
The important thing is checking for the accuracy of the listed debts. If you find any mistakes, notify the credit agency immediately. It can take between 30 and 45 days to complete a credit dispute so you want to make sure you give yourself plenty of time before applying for a loan.
Figure out your debt-to-income ratio
Your debt-to-income ratio (DTI) is the percentage of your monthly debt payments compared to your monthly gross income (that’s pre-tax income). To calculate your DTI, add up all of your debt payments (this includes rent or mortgage payment, student, car, and other loan payments, alimony or child support payments, credit card payments, and any other debts) and divide the total by your gross monthly income. Depending on the type of mortgage, lenders typically prefer a DTI that’s no higher than 36% to 43%.
While completely paying them off is ideal, you don’t have to wait until you are debt-free before applying for a mortgage. Just make sure you get your DTI low enough to be competitive. Can you still qualify for a loan if your DTI is above 43%? It’s possible but you’ll need extenuating circumstances like a high credit score or large cash reserve to make it happen.
Reduce credit card debt
Credit utilization ratio is one of the biggest influences on your credit score. This ratio is the percentage of how much you owe divided by your credit limit. For example, if you have two credit cards with a $10,000 credit limit between them, and a balance of $4,000 on either of the cards, your credit utilization ratio is 40%. It’s commonly recommended to keep your credit utilization rate below 30%. You can achieve that by paying down existing debt.
Pay your bills on time
Your payment history is another important factor in determining your credit score. Late payments can drag down your score and are a red flag for lenders. Do whatever it takes to make on-time payments, especially leading up to applying for a mortgage. Automated electronic payments, calendar alerts, or email reminders are good ways to help keep you on schedule.
Avoid opening new lines of credit
Stop opening new lines of credit once you’re ready to apply for a mortgage, about six months before or so. Hard credit checks, like those done when applying for loans, can temporarily lower your credit score. These new lines of credit may also make lenders nervous about your ability to manage your debts. It’s best to save any new credit pulls and large purchases until after you’ve closed on your new home.
Doing the work to make sure you put your best credit foot forward is beneficial. Taking these steps today can make a significant difference in the amount and quality of offers you receive, and ultimately the total cost of your mortgage.
SummerHill Homes wants to help ensure a pleasant and smooth lending experience for you. The process begins when you pre-qualify with one of our preferred home lenders.