If you need a mortgage, a good credit score, also called a FICO score, is essential—and it’s within your control.
In short, a credit score is a simplified calculation of your history of repaying debts and making regular loan payments. If you’re borrowing money to buy a home, lenders want to know you’ll pay back those comes back on time, and a credit score is an easy estimate of that likelihood.
Here’s your crash course on this all-important little number and how to whip it into the best possible home buying shape.
Pull your credit report
There are three major credit bureaus in the US (Experian, Equifax, and TransUnion) and each issues its own credit scores and reports (a more detailed history used to determine your score). Their results should be roughly equivalent, even though they are drawn from different sources. For example, Experian considers on-time rent payments while TransUnion has detailed information on previous employers.
To access these scores and reports, financial planner Bob Forrest of Mutual of Omaha recommends using AnnualCreditReport.com, where you can get a free copy of your report every 12 months from any credit reporting company. However, it doesn’t include your credit score – you’ll need to go to each company for this and pay a small fee.
Or check with your credit card company: Some, including Discover and Capital One, offer free access to scores and reports, says Michael Chadwick, owner of Chadwick Financial Advisors in Unionville, CT. After you receive your report, review it thoroughly page by page, especially the “adverse accounts” section that details late payments and other errors.
Assess where you stand
It’s simple: The better your credit history, the higher your score – and the better your chances for a home loan. The Federal Housing Administration requires a minimum credit score of 580 to allow a 3.5% down payment, and major lenders often require at least 620, if not higher. So what can you do if your credit report is in less than stellar shape? Don’t panic, there are ways to clean it up.
Improving your score with error disputes
A 2013 Federal Trade Commission study found that 5% of credit reports contain errors that can wrongly screw up your score. So if you notice any, start by sending a dispute letter to the bureau, providing as much documentation as possible, according to the FTC’s guidelines. You will also need to contact the organization that provided the bad information, such as a bank or medical provider, and ask them to update the information with the bureau. This may take a while and you may need documentation to make your case. But once the bad information is removed, you should see a bump in your score.
Delete one-time errors
So you’ve made a late payment or two – who hasn’t? Call the company that recorded the late payment and ask to have it removed from your record. “If you’ve had a problem and you’ve only missed a payment or two, most companies will actually tell their reporting department to take that off your credit report,” says Forrest. Granted, this won’t work if you have a history of late payments, but for accidents and minor mistakes, it’s an easy way to improve your credit score.
Increase your limits
A no-brainer way to boost your credit score is to simply pay off your debt. Not an option at the moment? Here’s a good loophole: Ask your credit card companies to increase your credit limit. This improves your debt-to-credit ratio, which compares how much you owe to what you can borrow.
“Having $1,000 in credit card debt is bad if you have a $1,500 limit. It’s not so bad if your limit is $5,000,” says Forrest. Simple math: Even though you owe the same amount, you’re using a much smaller percentage of your available credit, which reflects well on your borrowing practices.
Pay on time
If you are often late with your payments, now is the time to change. You have the power to improve your credit score yourself. Commit to always paying your bills on time; consider signing up for automatic payments so it’s guaranteed to go through.
Give yourself time
Unfortunately, negative items (such as habitually late or non-existent payments) can stay on your report for up to seven years. The good news? Changing your habits makes a big difference in the “payment history” segment of your report, which accounts for 35% of your score. That’s why it’s essential to start early so you’re sitting pretty once you’re home shopping and find what tickles your fancy.
Once you’ve got your credit on track, it’s time to tackle the next big hurdle: saving for a down payment.
