If you’re gearing up to purchase your first home, or you’re looking to move out of your starter home and into a larger place, you may have questions about how to qualify for a mortgage. Mortgages are one of the most common types of loans. However, they’re treated a bit differently than other loans, even those of a similar size such as business loans.
One of the criteria that bankers use to determine whether or not someone qualifies for a mortgage is their creditworthiness. Your credit score is a numerical value meant to indicate your level of creditworthiness, so it stands to reason that people with low credit scores are unable to qualify for a home loan.
So what credit score do you need to qualify for a mortgage? Is there a minimum credit score requirement for a mortgage? Let’s find out.
How Mortgages Work
What Is A Mortgage?
A mortgage is a loan backed by the property you’re purchasing. The home that you are buying acts as collateral and, in the event that you default on your mortgage, the lender can take back the house through foreclosure. Mortgages are paid back in installments with interest.
The first thing to understand is that we are referring only to mortgages in the United States. Other countries do mortgage loans differently, as they have different laws that govern how banks and other lending institutions can provide mortgages. If you live outside the United States, some of these won’t apply.
Mortgages are not a new invention, but they didn’t become commonplace for average citizens until the late 20th century. The mortgage as we know it was first created by the Federal Housing Administration (FHA), who created mortgages with low down payments in order to allow more people to afford a home. The down payment is a lump sum paid upfront to reduce the amount of the loan. A typical down payment is 20% of the value of the home, but there are mortgages that require lower down payments.
How Are Mortgages Paid?
When you pay for your mortgage, you pay for the principal (or the money borrowed), the interest, property taxes which are held in escrow, and insurance. Private mortgage insurance is also part of the payment if you put down less than 20% of the home’s value.
Mortgage loans, just like most loans paid in installments, amortize. Amortization is the gradual repayment of interest accumulated with the payment of the principal. You start by paying mostly interest, and then over time, more of the payment goes to the principal. This is important to understand because this affects how much equity you have in your home as you pay down your mortgage. Equity refers to your home’s value, minus the amount of principal (not interest) you still owe on your mortgage.
Mortgages and Interest
Mortgages tend to be very long-term loans. The most common mortgages are 15-year, 20-year, and 30-year mortgages. These mortgages are popular because your monthly payment gets lower the longer you stretch out the mortgage term. Because of this, though, many mortgage lenders will end up paying more than the value of the home (at the time of purchase) in interest.
There are generally two types of mortgage loans: fixed-rate mortgages, and adjustable-rate mortgages. Fixed-rate mortgages charge a flat interest fee that never changes throughout the life of the loan. Once you get a fixed-rate mortgage, your interest rate is locked in for the term. Adjustable-rate mortgages have interest rates that change with the market.
Both types of loans have pros and cons. Fixed-rate mortgages have higher initial interest rates, but they allow for a stable home loan payment that doesn’t change regardless of market conditions. Adjustable-rate mortgages tend to have lower at the outset, but if something happens (such as the Fed raising interest rates, or a credit crisis) then you can see your rates skyrocket.
Adjustable-rate mortgages have gotten lenders into trouble in the past when interest rate changes mean that they can no longer afford their payment. Home loan defaults were a major contributor to the 2008 financial crisis, and this caused many lenders to look at the riskiness of the loans they gave out. As a result, mortgages started to have more stringent requirements, one of which is good credit.
How Credit Scores Work
Your credit score is a 3-digit number between 300 and 850 that aims to assess how creditworthy you are to a lender. You don’t just have one credit score: you have multiple credit scores, all used by different lenders. However, the credit scores you’re given by credit bureaus and credit score sites such as CreditKarma will give you a good idea of what other lenders see.
Your credit score uses data from your credit report to calculate your score. Credit scores are calculated using 5 components, which are:
- Payment history. Have you made all your payments on time? Do you have past due payments? Are you currently in default? Lenders care most about whether or not their loans were paid on time.
- Amounts owed. How much of your available credit are you borrowing? How large are your loans in total? The more you’re borrowing, the less creditworthy you are.
- Length of credit history. How long have you been borrowing for? How old on average are your credit accounts? How old is your oldest and newest account? The older, the better.
- Credit mix. Do you have a variety of different types of loans? A wider variety of loans indicates creditworthiness, as it shows that the borrower can handle different types of debt.
- New credit. Do you have a lot of new credit accounts? Too many new credit accounts can hurt your credit score.
The higher your credit score, the more access to credit you have. There are benefits to having a perfect 850 credit score! However, your credit score is far from the only factor used in determining whether you qualify for a mortgage.
How To Qualify For A Mortgage
What Do Lenders Like To See?
- Stable income for at least two years. Employment is generally seen as a plus, although self-employment can be used if you have proof of stable income over the past two years. The more, the better, particularly during times when credit is tight.
- A low debt-to-income (DTI) ratio, which is the percentage of monthly gross income that is used for debt payments. Typically, mortgage lenders won’t give a mortgage to someone with a debt-to-income ratio above 43%, but that’s an absolute max with 36% being seen as more attractive. Mortgage lenders want to see a DTI ratio of much lower than that, particularly if you’re not making a substantial down payment.
- A clean payment history. If you’re missing payments, particularly credit card, rent, or previous mortgage payments, this could be a knock on your application and could prevent you from getting a loan. Generally, they’re looking at the past two years of your credit history (rather than the 7 years that your credit report keeps).
- A high credit score. We’ll discuss this further in depth in the next section.
What Credit Score Do You Need To Qualify For A Mortgage?
For most private loans, there is no absolute minimum credit score that you need to qualify for a mortgage. The best interest rates are given to people with credit scores above 760, or people with “excellent” or better credit. A good credit score can save you a significant amount of money on interest over the life of your loan.
There are some types of loans that do have a credit score requirement, though, and most of them come from the government.
To get a low down payment FHA loan (3.5% down) as a first-time home buyer, you need a FICO score of at least 580. You can qualify for an FHA loan with a lower score, but you’ll need to put at least 10% down. You can do this with properties that have 4 or fewer units in them, and you must live in the house you purchase.
VA loans don’t have a minimum credit score, however the government is not the issuer of VA loans. Instead, they simply guarantee them. A typical VA lender will look for someone with a credit score of at least 580 to 660.
If you want a home loan, but think your credit score is preventing you from qualifying for one, you may need credit repair. Check out The Credit Pros’ credit repair options to see if credit repair is right for you!
Is it Advisable to Pay Off Collection Items?
The majority of consumers appear to believe that if they pay off collections, their credit scores will improve and become better. A shocking truth has emerged: this is not actually the case. Just so you’re aware, negative items can remain on your credit reports for a maximum of seven years, and your credit score will only begin to improve once the negative item has been removed.
What are Collection Accounts and How Do They Work?
Collection accounts are entries on a credit report that indicate that a debtor has fallen behind on previous obligations. Original creditors may have sold the defaulted debts to a debt buyer or may have assigned the debts to collection agencies after the default occurred. It should come as no surprise that the collector’s ultimate goal is to work on the client’s behalf in order to have the defaulted debt collected from the debtor or as much of it as possible.
The majority of the time, these collection accounts are reported to credit reporting agencies. According to the FCRA, or Fair Credit Reporting Act, these are permitted to remain on credit reports for up to seven years from the date of the initial debt’s first delinquency.
The Consequences of Paying Off Collections on Your Credit Score
The ramifications of completely paying off collection accounts will not disappear in an instant, however. You will still need to wait until the statute of limitations has expired before this information can be removed from your credit report. As previously stated, this will typically take approximately seven years. Fortunately, information from the past will have a smaller impact on your credit score.
Despite the fact that paying off collections will not improve your credit score, there are several ways in which you can take advantage of this situation:
Credit card or medical bills can result in debt collection lawsuits, which you can avoid if you take the proper steps.
As a result, you will be able to avoid paying interest fees to debt collectors. A debt collector is constantly selling and buying accounts, and he or she may continue to charge you fees and interest on the accounts that have been purchased.
In the event of a settlement or payment in full, the credit report will reflect this. When it comes to lenders, it can have a positive impact because they are likely looking beyond your credit score and instead of looking at your credit history and other factors. Comparing those who successfully repay an extremely past due account to those who never managed to do so, the former will demonstrate greater financial responsibility.
You will eventually be able to benefit from the most recent FICO Score model. Despite the fact that the FICO 9 is still in the early stages of implementation, the vast majority of lenders will eventually adopt it. Medical bills will be given less weight in this model, and paid accounts will be completely ignored when it comes to collections.
According to the law, the majority of negative credit information, such as collections, should be removed from credit reports over time. The fact remains that attempting to settle or pay off your debt as quickly as possible will be in your best interests. Not to mention the fact that, in contrast to older models, the newer models for credit scoring do not take into consideration collections with zero balances. If you don’t think you’ll be able to handle it on your own, you can always enlist the assistance of professionals who can simplify the entire process for you.
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How Bad is an Eviction and How Long Does it Stay on Your Credit?
Every time someone mentions a record during an eviction, what they are really referring to is a background check as well as your credit report and history. In general, an eviction will appear on your credit report for up to seven years.
That is correct; you read that correctly. It will be there not for 7 months, but for as long as 7 years, according to some estimates. Eviction is, therefore, a major issue in this community, and it is treated as such. Landlords, in particular, are wary of renting to tenants who have a history of evictions on their records. If you are ever evicted, this fact will follow you wherever you go for the next seven years, no matter how hard you try to forget it.
For landlords to know that you have been evicted in the past, there are two ways to find out.
If the reason for your eviction was non-payment of rent, your landlord may have forwarded this account to a collection agency, which will then appear on your credit report as a result of your actions.
When the courts were involved in your eviction, the case judgment is considered public record, and landlords who use tenant-screening services will be able to see this information if they conduct a background check on the tenant in question.
Is it possible to have an eviction removed from your credit report?
Anything that is accurate on your credit report will remain on your report for seven years. If there is ever a mistake, you will have the opportunity to contest the decision.
This error will be removed from your credit report if you can provide proof to the credit reporting agency that a mistake was made. If you were successful after being served with an eviction notice, you should provide proof of your victory to the reporting agency. There are landlords who will attempt to evict people even if they do not have a legitimate or acceptable reason to do so.
How Can You Find a Place to Rent if You Have an Eviction on Your Credit Report?
It is important to understand that just because you have an eviction on your credit report does not necessarily mean that you will be unable to rent for the next seven years. However, even though your report contains an eviction, there are still several options available to you for finding a place to live in the meantime.
Take the initiative.
Inform the property manager or landlord of your intention to evict them prior to submitting your application and explain your circumstances to them. Even if the eviction took place years ago and you have maintained a good tenant record since then, there is a chance that the landlord will rent to you again.
Look for someone who will sign on as a cosigner for you.
It is possible for you to obtain a rental unit if you have a co-signer who has good credit and can vouch for you. Your parent or another person with good credit can serve as your co-signer. If, on the other hand, a payment is not made on time, your landlord has the right to and will almost certainly ask for the money from your cosigner.
Pay in advance if possible.
A high probability of obtaining a rental unit exists if the landlord recognizes your willingness to pay the rental value in full upfront for a period of 3 to 6 months.
What’s the bottom line?
It is preferable to avoid being evicted in the first place if you want to avoid having any eviction information on your credit report.
Why did House Prices Go Up in 2020 During the Pandemic
The pandemic brought with it a lot of surprises, one of them being the rise in house prices. The US economy plummeted with millions of Americans finding themselves out of work and without food. No one would have predicted that at the time when times were hard for everyone, home prices would become overheated, mortgage rates would skyrocket, and the supply for houses would not meet the demands and consumer confidence in the housing market was reducing. The housing market was booming.
Right at the beginning of the pandemic, no one was willing to buy a house or even sell one. This was because of the uncertainties of the time brought about by Covid-19. In a span of a few months, most day-to-day activities were confined to the available properties. Houses became a key asset and prices began to rise.
The US real estate market in context
The American real estate market suffered a huge blow as a result of the 2008 financial crisis. The recession saw the prices of houses fall by a big margin and the world’s largest real estate market was affected in ways no one would have imagined. This was as a result of subprime mortgages that were given in large numbers to help as many Americans as possible to become homeowners. Homeowners found themselves mortgages that were higher than the value of their houses. By 2013, the market was showing signs of recovery. From 2018 to 2019, the market began to fall slightly.
For many Americans, owning a home is very important to them as it allows them to build up their wealth, make it easy for them to access credit, and be able to save more as they no longer have to pay rent. A large percentage of homeowners rely on mortgages to acquire homes after raising the down payment from their savings or with money from their families. It was expected that the pandemic would lead to foreclosures especially since the economy took a downward spiral at the start of the pandemic. Many people also lost their source of income and were unable to keep up with their mortgage payments.
The most expensive real estate in the USA is found in San Francisco, California. San Francisco has a booming economy fueled by the presence of tech companies like Apple, Facebook, Intel, and Tesla that have their headquarters in the nearby Silicon Valley. The city also has been at the forefront in matters progressive culture which attracts more people to relocate to it. As a result of the thriving tech economy that brings billions of dollars into the city, and rising housing demand, the city is the most expensive place to buy a house in the US. On average, the price per square foot is $1,100.
Why do house prices go up in general?
The value of a house is usually expected to depend on the demand for living in a particular area, but things like recessions and pandemics are known to have an impact that can either be positive or negative. House prices go up when the supply does not meet the demand. One of the key factors that affect the supply has to do with the regulations that restrict the number of housing units that can be built. For example in a single-family zone, it’s illegal to build townhouses or apartments, or condos on any spaces designated for single units and parking minimums must be met. This forces contractors to make provisions for parking spaces even in places where it’s unwarranted.
Some local governments allow groups of people to block developments they feel will have a negative impact on the overall value of the entire estate. These local zoning regulations are making it impossible for most Americans to move to better estates due to the shortage of housing.
Why did house prices go up during the pandemic?
The price for houses is determined by the existing demand and supply dynamics. The fewer the number of houses available, the higher the prices for the available units would be. If the number of buyers is fewer, then the house prices would be lower. The prices went up because the pandemic affected both supply and demand. A lot of people were in a rush to take advantage of the falling mortgage rates which made it easier to acquire homes at a cheaper price.
As a result of the falling mortgage rates, houses were not staying on the market for long. Among those who bought the homes were first-time homebuyers or those who were buying a second home. These put a lot of pressure on the market as were not putting another home on the market as they took one out of it. In some instances, others chose to refinance their mortgages based on the lower rates instead of acquiring a new home.
Because of the pandemic, people who had plans of listing their homes did not do so and those who had listed their homes took them off the market. As a result of the social distancing rules at the height of the pandemic, not many people were willing to show their houses.
Home developers did not anticipate a surge in the demand for housing during the pandemic. A number of them had let go of their employees and had shut down. At the same time, prices for materials like lumber also added to the construction costs alongside the scarcity of skilled workers.
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