Credit scores are confusing. Your mortgage interest rate and your ability to qualify for a loan are affected by your credit. However, not all credit scores carry equal weight. Many people aren’t even aware that there are different types of credit scores, or that the credit score you can get as a consumer may be very different than the one that your mortgage lender will look at. Let’s take a look at the details of credit that you’ll want to be aware of if you are considering purchasing a home. 

• Do I have to have credit to purchase a home? Yes, you need to have an established credit background to qualify for a mortgage. A credit history shows lenders you have committed to other financial responsibilities, and that you make your payments regularly. It helps the lender feel confident that you will pay your mortgage monthly.

• Credit is like a crockpot, not a microwave. As modern consumers, we are used to getting things immediately.  But that doesn’t work when establishing your credit history. You can’t just run right out and get a bunch of credit cards, make purchases and pay them off right away. To establish your credit, you need to take planned, calculated steps to build a credit history in the right way. This takes a little bit of time. However, if you consult with your mortgage advisor before you start, they can help guide you through the process. 

• What is a credit score? There are 32 different credit score models; all that credit score data is used to understand your buying habits and financial responsibility. Generally, the higher your credit score, the less risk you pose to a lender. In other words, a high credit score means you are very likely to pay your debts regularly. The lower the credit score, the more risk a borrower poses to the lender. The typical free credit report does not show a lender what they need to know. Lenders have a different report they pull for scores that directly affect a mortgage loan. Your mortgage advisor can help you pull the credit score, sometimes free of charge to you, and then help you understand what it means. 

• Why is my consumer score different from what you all pull? As discussed above, there are different credit scoring models. Some are used for automobile loans, some just for issuing new credit cards and retail credit cards, then you have others that are used for mortgages and long term loans. The purpose of each type is to determine financial responsibility. While you may have established credit in some or all of the categories (high, middle, low or no credit), they can all be improved. Your mortgage advisor can help you evaluate where you currently stand and how to improve it toward getting a home loan. 

• How do I establish credit if I don’t have a credit history? Again, this is not something to jump into; you should make a plan and take the right steps to build your credit in the right way. One way is to get a secured credit card. Most banks offer secured credit cards with limits that you can adjust to keep well within your means. 

The best way to use it is to pay for a couple of small items you would usually pay cash for like coffee, gas, or groceries. Set that money aside so when the bill comes, you are sure to have the funds to pay it off. You need to wait to pay it until you receive the credit statement from the bank. This is the only way the balance and payment will be reported to the credit bureaus. If you follow this pattern a few months in a row, it will start establishing a credit history. Your mortgage advisor may have a specific plan to help you build faster and more securely, so be sure to call them. 

• Re-establishing or rebuilding credit is important too, but it can be very different from establishing credit. Restoring or rebuilding credit shows lenders you are serious about correcting slip-ups and taking control of your finances. However, you should be careful of randomly paying off old balances. You will want to pay down the right debts to improve your credit rating.

• Don’t get hasty — ask your mortgage advisor to pull a credit report for you as they need a specific report for lending purposes. It is not the same type of report that you can get on your own.

• Depending on your score, your mortgage advisor can help you make the right payments to reestablish your credit. It is hard to make improvements if you don’t know the best course of action.  

Five ways To Rebuild and Restore Your Credit

1. The most crucial part of any repayment plan is to pay on time. Late payments stay on your credit report for seven years. If you happen to have accounts currently in the collections process, you want to focus on the accounts you have open and active. Collection companies are persistent, but they should not be your priority.

2. Don’t max out or eliminate a credit line. You want to have a buffer on each of your credit cards. Credit experts recommend staying under using 30% of your credit limit. For example, if you have a balance limit of $1000, keep your balance under $300. If you are maxed out, start paying down the highest balance card that also charges the highest interest. When your creditors report a lower balance, your overall score will begin to improve.

3. If you have closed your credit cards, the best way to re-establish credit is with a secured card. These are usually issued by a local bank where you have an established amount set aside in an account to pay for the card. This deposit is your credit limit. You can not go over that set amount. For the most benefit, be sure the company reports the card to all major credit bureaus. Your mortgage advisor can help with the details.

4. Local banks and credit unions may also have cash secured loans they offer. These loans are similar to a secured card, and you will need to have a deposit account at the bank. These loans are reported to the bureaus and do tend to have higher interest rates, so they should not be entered into lightly. Again, you don’t want to miss a payment as it will report negatively on your credit report.

5. Have a cosigner on a credit card. With this process, you will have to make sure that your friend or family member trusts you will pay the card on time, as it will negatively impact their credit if you miss a payment.

Credit problems stay on your report for quite a while. As we discussed above, a late payment can be on your report for seven years, and bankruptcy will remain on your report for ten years. However, this doesn’t mean you can’t start re-establishing your credit. It may take a little longer for your good efforts to erase the missteps from your past credit usage. 

Additional considerations:

• People think they have to pay off debt before they can get a mortgage, but that isn’t necessarily true. Credit is tricky. An old credit card that has turned you over to collections will roll-off your credit report if you haven’t had any contact with them or the collection company in seven years. Re-establishing communication will restart that time frame, and cause the old debt to reappear on your credit report. Depending on when you spoke with either company last, you don’t want to restart a payment process if it is close to aging out. Talk to your mortgage advisor first before taking action on any questionable credit situation. 

• Sometimes it does not make sense to pay off old medical or credit collections. Some mortgage lenders will make you pay off those old collections. Some banks will require any collection of over $5,000 to be paid off. This depends on your lender and which report they consider when they process your loan application. There are situations where it might make sense to let it roll off your report. Talk with your mortgage advisor before making any new payments toward an old collection account.

• Don’t make a big purchase (like a car, for example) in the middle of the mortgage process. If your credit score is higher, an auto loan inquiry on your credit report will have a very minimal effect on your score. However, if your score dips below your mortgage lenders threshold for a loan, you could be denied. It’s always best to talk to your mortgage advisor about your plans for any large purchases you might make during the mortgage process. By discussing it with your mortgage advisor, you can make a plan of how to accomplish both loan processes the right way without being denied by either. 

With your credit in the right position to be approved for funding or moving toward that goal, it’s time to start looking at which mortgage programs fit your financial situation. There are multiple mortgage programs out there and some you will never find by searching the internet yourself. This is where your mortgage advisor can really shine and help you walk through all of the options.