Getting your financial house in order before applying for a mortgage includes a lot of things, from saving your down payment to pulling together your paystubs. But one thing that may not be so evident is the need to pay down credit card debit and avoid opening new lines of credit.
That’s because too many open lines of credit and balances that are over 30% of your available credit limit can serve as red flags to a mortgage lender. Those balances can also harm your all-important credit score, which could cost you by way of higher interest rates. If the situation is too serious, you may not qualify for a mortgage at all.
Here’s how those high-balance cards could hinder your ability to get a good rate on your mortgage loan—and what you can do about it.
Credit card debt harms your score
You probably already know that your credit score is one of the most important factors affecting the interest rate on your mortgage. Since mortgages last for many years—typically 15 to 30—achieving a low rate will save you thousands of dollars over the life of your mortgage.
One of the biggest culprits keeping a score low is credit card debt. When you carry high balances on your credit cards or you have a large number of credit cards, it will lower your credit score.
Before you start your home search, try to get your credit card debt under control as much as you can. Yes, you can still buy a home if you have credit card debt. But lowering your amount of debt will help you qualify for lower interest rates. It can also give you more options when it comes to purchase price as it will improve your debt-to-income ratios.
In addition to high balances impacting your score, late payments can also cause it to drop. You won’t necessarily be turned down because of late card payments, but you may need to explain the circumstances, if any, that led to your being late.
Have a plan and start now
If you’re thinking about buying a home and have had some credit issues in the past, or currently have a lot of credit card debt, get started on steps to improve your score long before you want to buy a home, if at all possible. The more blemishes on your credit report, the more time it will take to heal.
In the time between now and when you close on your home, be especially diligent about making your payments on time. This will establish a solid recent credit history to help balance past missteps. Be prepared to write a letter of explanation, providing a reason for the late payment, such as a serious illness or temporary job loss.
You’ll also want to reduce your credit card debt. Your first step is to create a household budget and determine how much you can put toward paying off your credit card balances each month. Paying only the minimum could see most of your payment going toward interest, which means it will take an excessive amount of time to reduce your balances.
Once you know how much additional money you have to apply to your credit card debt, get strategic and determine the best places to apply extra payments. Begin with the card that has the highest interest rate. Once that card is paid off, start putting the extra toward the remaining highest interest card. As you pay off each card, you will have more money to put toward paying extra—this is known as the debt avalanche method.
Put simply, anything you can do to decrease your amount of credit card debt, while also boosting your credit score, will work in your favor. It not only helps you qualify for a home loan, but can also help you qualify for a better loan.
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