Today, almost every mortgage loan program requires a certain minimum credit score. Credit scores have been used extensively by the mortgage industry since the late 1990s, and are a key factor when a lender reviews a mortgage application. Yet there are a lot of mysteries around credit scores, including how they’re calculated and what effects your credit score can have. What credit score do you really need to buy a house? Will a better credit score make a difference? We’ll explain.
What Credit Score is Needed to Buy a House and Why?
Credit Scores Explained
Credit scores, sometimes referred to as FICO scores (because the FICO Company developed the algorithm that calculates these scores), are three digit numbers ranging from 300 to 850. Scores are calculated after a digital review of a person’s credit history. These reviews include payment history, accounting for 35% of the overall score, account balances at 30%, and how long someone has used credit at 15% The final two categories, types of credit and credit inquiries, take up 10% each.
How to Improve Your Credit Score
Credit scores are dynamic and change based upon a person’s use of credit. When someone pays an account on time, scores will gradually increase over time and when someone makes a payment more than 30 days past the due date, scores will fall. Someone trying to improve their credit score should concentrate on making timely payments and keeping account balances around one-third of credit lines, which makes up nearly two-thirds of the total score.
At Homesite Mortgage, we’ve partnered with one of the best credit restoration law firms in the nation. In fact, we’re so confident in their abilities that we will reimburse you dollar-for-dollar for the cost of having them represent you with your creditors! Usually the cost is based on a modest monthly fee and the process only takes about six months. Contact a mortgage banker at Homesite Mortgage today to learn more.
How Lenders Get Your Credit Score
When a lender requests credit scores, the lender gets three, one each from the three credit repositories: Equifax, Experian, and TransUnion. These three all use the same algorithm developed by the FICO Company, but will almost always be a little different, as not all businesses report client payment histories at the same time or report to all three. Of the three reported scores, the lender will ignore the highest and lowest score and use the middle score for qualifying.
What Credit Score is Needed to Qualify?
But what is the minimum credit score lenders need in order to qualify? That depends on different factors, primarily the loan program guidelines, which look at the down payment amount in the transaction and the loan type. Conventional loan guidelines, those underwritten to Fannie Mae or Freddie Mac for example, refer to a chart called the Loan Level Pricing Adjustment, or LLPA.
Credit Score and Interest Rates
Most conventional lenders require a minimum credit score of 620 for most transactions, but do have the flexibility to drift lower given other compensating factors about the loan file. However, a higher credit score can reduce your interest rate. For example, someone with a credit score of 740 or higher with a 20% down payment will typically get a 30 year fixed rate that is around 0.50% lower compared to someone with a 20% down payment and a 680 score.
Someone financing an investment property can expect an interest rate increase of about 0.25%. Adjustable rate loan programs can also be higher if the down payment is less than 10%. There are various factors that affect scores on conventional mortgages, such as a cash-out refinance, a condo with a down payment of less than 25%, and financing a property with a subordinate, second lien. All of these things will require a higher credit score.
Credit scores are also required for government-backed loan programs. These loans are so-called because they carry some degree of a guarantee to the lender issuing the loan. FHA loans carry a guarantee to the lender should the loan go into default and the lender used proper FHA approval guidelines. USDA loans have a guarantee and so do VA loans.
If Your Credit Score Isn’t Perfect
You don’t have to have a 700 or better score in order to buy a home. FHA loans, for example, typically require a minimum 600 score, but at Homesite Mortgage our minimum FHA score is 580. The Department of Veterans Affairs does not set a minimum credit score for VA loans, but instead leaves that for the individual lender. Most minimum scores for VA loans are set at 620, but at Homesite Mortgage we will provide a Veteran a loan with a credit score as low as 600! . USDA loans ask for a minimum score of 640, but again, at Homesite Mortgage our minimum credit score for these loans is just 620!
However, with all three programs, if the lender approves the loan manually and it is not submitted for an automated approval, or the automated submission does not issue an approval, the lender can use its own minimum requirements. In this case, the lender must document why the exception to the score was made.
Credit scores are no doubt an important part of buying a home, but a lower score does not mean you cannot get a home loan. There are more options than many people think. If you are considering getting a home loan and you know your credit score isn’t ideal, you may pay less in interest in the long run if you improve it. However, if you’ve found the home that you want and you don’t want to wait, there are options.