As you probably know, having a good credit score can open the door to all sorts of opportunities, like the ability to finance everything from a car to your own business. One of the biggest ways healthy credit makes a difference is through mortgages. Having solid credit can allow people to purchase their dream home and get a better rate that could translate into hundreds of thousands of dollars in savings.
Almost every mortgage bank will asses a borrower’s likelihood to repay a loan through their FICO score. The best rates for mortgages go to people with scores of at least 740. As your score goes down rates will go up, and eventually mortgages get outright denied if scores fail to meet a certain threshold depending on the loan.
Here’s a hypothetical example that shows credit’s impact:
Let’s say you have great credit and want to apply for a mortgage. According to FICO, with scores of 760 or better, the average interest rate is 3.56%. So if you applied for a $600,000 30-year fixed-rate mortgage your monthly payment would be $2,714.
However, if your credit score was 100 points lower, the average interest rate would be 4.18%. At this point your monthly payment would jump up to $2,927. Compared to before, you would now end up paying $2,556 more per year, or over $75,000 more over 30 years.
Even worse, if your score was in the low 600’s the average interest rate would be 5.15%. Compared to someone with a 740+ score, you would end up paying $203,400 more over the life of the loan!
However, there’s no need to panic if you don’t know about your credit. The first key to good credit is understanding how it works.
Here are the five factors that impact scores:
It is factored by how timely you pay your bills, whether you have any past bills due/bills in collection, or if you’ve declared bankruptcy.
It is factored by the balances you’re carrying on your credit cards compared to the limit on those cards. To have the best scores, you should be using less than 10% of the total and individual limits on your credit.
Length of credit history:
It is based on the average age of the credit you have open.
This reflects the number of credit card and other loan accounts you’ve opened, as well as any inquiries made about your credit recently. Having many hard inquires (or pulls on your credit score by others) can lower your score.
Types of credit used:
This takes into account the different types of credit on your file. Having a variety of types of credit can sometimes help boost your score.