| Jonathan G. Cameron, CFP® |
Down Payment and Qualifying for a Mortgage
One of the big financial milestones of early adulthood is buying your first home. For most people, that means qualifying for a mortgage. In this two-part series I’ll talk about the two big issues in qualifying for a mortgage: your credit score and how much you can afford.
Good Credit is Accurate Credit
Your credit report is a history of how you’ve used credit — credit cards, car loans, student loans, etc. Lenders use it to determine whether to extend credit to you and at what rate. The most important thing to know about your credit is that it must be accurate. You’re entitled to a free copy of your credit report from each of the three credit bureaus (Equifax, Experian, and TransUnion) once per year at annualcreditreport.com. Since you get one free report from each bureau per year, a good strategy is to pull one bureau’s report every four months — that way you’re checking your credit three times a year for free.
Challenge Credit Report Errors
If you find errors on your credit report, you can dispute them directly with the credit bureau. The bureau must investigate your dispute and correct or remove inaccurate information. This process can take some time, so if you’re planning to apply for a mortgage, check your credit well in advance — ideally six months to a year before you plan to buy.
Avoid Credit Repair Scams
There are companies that claim they can “fix” your credit for a fee. Be very skeptical. No one can legally remove accurate negative information from your credit report. What they can do — and what you can do yourself for free — is dispute inaccurate information. Don’t pay for something you can do yourself.
A Good Credit Score
Your credit score is a numerical summary of your credit report. Scores range from 350 to 850. A score of 700 or above is generally considered good and will qualify you for competitive mortgage rates. The higher your score, the better the terms you’ll be offered.
How is Your Credit Score Determined?
- 35% — Payment History: Do you pay your bills on time? This is the biggest factor. Even one missed payment can hurt your score significantly.
- 30% — Amounts Owed: How much of your available credit are you using? This is called your credit utilization ratio. Keeping balances below 30% of your credit limit is ideal.
- 15% — Length of Credit History: How long have you had credit? Older accounts help your score.
- 10% — Credit Mix: Do you have a variety of credit types (credit cards, installment loans, etc.)?
- 10% — New Credit: Have you recently applied for new credit? Multiple applications in a short period can lower your score.
Where Can I See My Credit Score?
CreditKarma.com provides free access to your credit score and report summaries from TransUnion and Equifax. It’s a good tool to monitor your score over time.
What if I Don’t Have Any Credit?
If you have no credit history, you won’t have a credit score, which makes it difficult to qualify for a mortgage. The solution is to establish credit. A secured credit card is a good way to start. You deposit money as collateral, and the card issuer gives you a credit limit equal to your deposit. Use the card for small purchases and pay it off in full each month. After 12–18 months of responsible use, you’ll have a credit history and a score.
Take These Steps
Here’s what to do now:
- Pull your free credit report at annualcreditreport.com
- Review it carefully for errors and dispute any inaccuracies
- Check your credit score at CreditKarma.com
- If your score is below 700, work on improving it before applying for a mortgage
- Pay all bills on time, every time
- Keep credit card balances low
- Don’t open new credit accounts unnecessarily
In Part II, we’ll look at how much mortgage you can actually afford. You may also find The 15 Year Mortgage and How Do I Improve My Credit Score useful.
