Credit score to buy a house: Everything you need to know

Learn what is the perfect credit score you will need to buy a house. Can you also improve it? Read this article to know more

Credit score to buy a house: Everything you need to know

You need a good credit score to buy a house. That a solid credit score will better your chances of qualifying for a mortgage sounds obvious to most would-be home buyers. Naturally, lenders want to know you are likely to repay your loan on time, and credit scores are a great indicator of that.

But it is not always so simple. What qualifies as a good credit score? How is the minimum credit score affected by loan types? And how do you improve your credit score?

Here is everything you need to know about credit scores.

To our audience of mortgage professionals, this article can serve as a valuable tool for any of your clients who are asking about calculating home equity. Send this along to them in an e-mail after helping them.  

What is a good credit score to buy a house?

A good credit score to buy a house varies depending on the loan type. In any case, however, the minimum credit score required is between 500 and 700. For most conventional loans, for example, you will typically need a minimum credit score of 620, while some lenders will require a credit score of 660 at least.

While you may be able to secure a mortgage with poor credit, you usually need either good or even exceptional credit to qualify for the kind of terms you are likely to want. For example, your credit score will play a significant role in determining the payment terms on a mortgage loan as well as the interest rate. The reason for this is that lenders use what is referred to as risk-based modelling to determine loan terms.

In other words, if you are more likely to pay your bills on time, as revealed by your credit history, the lower your interest rate is likely to be. If your credit score is damaged in some way, however, you could end up paying more.

Read more: What is the best mortgage advice that you can tell your clients?

What minimum credit score do you need to buy a house?

For most types of loans, you will need a credit score of at least 620 to purchase a property. While 620 is typically a baseline on conventional loans, however, you will greatly improve your chances of approval if you have a higher credit score.

In fact, borrowers who have a credit score under 650 usually make up a small portion of closed purchase loans. Not only that, but if you have a score of 740 or more, you will get a significantly lower interest rate.

If you have a low credit score, you may want to consider building it up instead of purchasing a property. Because of current economic uncertainty, most lenders have increased the requirements for minimum credit scores on loans.

The minimum credit score you need to buy a house is also determined by the loan type. Here is a quick look at loan types in the USA and minimum credit scores:

typical credit score to buy a house in the usa

Let’s take a closer look at each loan type to better understand their requirements and potential benefits:

Conventional loan

While you can technically get a conventional loan with a credit score of 620, this type of mortgage usually requires a higher score. Here are two things you should know about conventional loans:

Average score. The average FICO score for home buyers who use conventional loans is 749.

How to lower PMI. The higher your credit score, the lower the cost of private mortgage insurance (PMI). You will have to pay for PMI if you make a down payment of under 20% on a conventional loan. By contrast, you will have to pay 1.1% PMI if you have a 620 credit rating and make a 10% down payment.

FHA loan

You should look into a mortgage loan insured by the Federal Housing Administration if you have a credit score of roughly 500. However, it is important to know that lenders can decide their own credit score minimums for these types of loans, meaning that you may have a more difficult time getting approved if you meet the bare minimum.

Average score. The average FICO score for home buyers with FHA loans is 668.

What it means for your down payment. You could potentially make a down payment as low as 3.5% on an FHA loan, but you will need a FICO score of 580, at the very least. For this type of loan, you will need to make a down payment of at least 10% if your credit rating is between 500 and 579.

VA loan

To buy a house using a VA loan, there is no government-set minimum credit score. The requirements are that you are a veteran, on active duty in the miliary, or a spouse who qualifies.

Having said that, lenders of VA loans determine their own minimum credit scores, which can vary. Generally, however, the minimum is in the mid-600s, and the average credit score for VA home buyers is 711.

USDA loan

Like VA loans, USDA loans do not have a set minimum credit score and lenders can determine their own minimum score. Scoring above 640 on your credit score, however, will provide you the opportunity for streamlined credit processing on this type of loan.

Jumbo loan

A jumbo loan is for a mortgage to buy a home that is larger than the conforming loan limit. To qualify for a jumbo loan, lenders typically want you to have a credit score above 700, the reason being that lending so much money is considered a high risk. In fact, most lenders will want more than a solid credit score to approve jumbo loans. And you are more likely to get the best jumbo mortgage rates with a FICO score of more than 740.

How do you improve your credit score?

To improve your credit score to buy a house, you will first want to review your credit report to learn what makes up your score. You can get your report for free from any major credit bureau. Additionally, getting pre-approval will also allow you to check your credit score. Learn more about mortgage pre-approval advice here.

But what exactly will improve your credit score? Here are the best habits you can get into that will help you:

Pay your bills promptly. Your payment history will make up 35% of your FICO credit score. That is a major chunk, which shows you how important paying your bills on time can be.

Lower your credit utilization. You can lower your credit utilization by increasing your debt payments even for a short time or requesting your lender increase your credit limit.

Avoid new credit lines. Your credit score can be negatively affected for six months if too many hard credit inquiries are performed for new lines of credit. Therefore—avoid new lines of credit.

Keep old accounts open. Rather than closing old accounts, keep old credit lines open so that you can catch up on past delinquencies or payments.

Use patience. Do the work, wait it out. The reason patience is so important is that it may take up to six months to make significant changes to your credit score.

Remember: it can take some time to improve your credit score to buy a house—it won’t happen overnight. However, the benefits are significant when you are planning to purchase a property. Even smaller credit score improvements will reduce the interest rate you receive, potentially saving you tens of thousands of dollars over the life of your loan. Put together, that adds up to a significant savings which could one day pay for your retirement or your child’s college tuition.

How do you prepare your credit score for a mortgage?

If you want to purchase a property soon, you will want to prepare your credit score for a mortgage. Prior to officially beginning the process, you can get the ball moving.

Here are some quick and easy ways to prepare your credit score for a mortgage:

  1. Check credit score and reports
  2. Pay down debt
  3. Avoid new credit applications
  4. Simply wait

Here is a deeper dive into preparing your credit score for a mortgage:

1. Check credit score and reports

The first step to preparing your credit score to buy a house is knowing where you stand. You can check your credit score at a major credit bureau for free. If your score is already higher than 700, you likely will not have to make many changes before applying for pre-approval.

If, however, your credit score is so low you are at risk approval with unfavourable terms—or are denied—you may want to wait until you are able to make improvements.

After receiving your credit report from a national credit reporting agency, you must comb through them for any unrecognizable items or inaccuracies. If you spot any, you can then ask the lender to update that information with the credit reporting agency or dispute them with the agencies directly. This is a fast way to improve your credit score.

Couple buys first home

2. Pay down debt

Another way to prepare your credit score to buy a house is to pay off other debts, which has the added benefit of lowering your debt-to-income ratio. This pertains especially to credit card debt.

The amount of credit card debt you owe versus your total available credit (i.e., your credit utilization rate) is critical to your credit score. While it goes without saying that the lower your credit utilization is the better, however most credit experts would say you should have 30% or less.

You credit score should be responsive to paying down high credit card balances since your credit utilization rate is calculated every month, when your credit card balances are reported to the credit bureaus.

3. Avoid new credit applications

When you apply for credit, lenders typically run hard inquiries on your credit report, which could, in turn, decrease your credit score by less than five points. If, however, you have multiple inquiries in a short time, your credit score could be lowered by much more.

An exception is if you apply to the same type of loan (mortgage, car) multiple times just to compare offers. In a short time, all those inquiries will be combined into one and have less of an impact on your credit score.

4. Simply wait

Your credit score will need more time to recover if it includes significant negatives such as repossession, collections, or bankruptcy. In those cases, it is better to simply wait until you can rebuild a more positive credit history prior to completing an application for a significant loan.

Plus, if interest rates are rising, waiting could also be a great option if the housing market is white-hot. You can wait until the market cools a bit, and therefore benefit, depending on how much financial flexibility you have.

What factors are there besides credit score to buy a house?

Before approving your mortgage to purchase a home, lenders view more than just your credit score. While it is a major consideration, there are other factors lenders look at, such as:

  1. Debt-to-income ratio
  2. Loan-to-value ratio
  3. Income and assets

Here is what we mean by each of these factors:

1: Debt-to-income ratio

Your debt-to-income ratio (DTI) is the percentage of your gross monthly income that you put toward paying off debts. If your DTI is low, you will be seen as less of a risk to lenders.

To calculate your DTI, you have to divide your recurring monthly debt (credit card, student loans) by your gross monthly income. The formula might look like this:

Debt ($1,000)/Income ($3,000) = DTI (33%)

You should aim for a DTI of 50% or lower.

2: Loan-to-value ratio

Loan-to-value ratio, which lenders us to assess your level of risk, is the amount of the loan divided by the price of the house you want to buy.

If your home is $150,000 and your mortgage is $120,000, for instance, your LTV is 80%. The more of the loan you repay, the more your LTV decreases. If your LTV is high, you are deemed riskier, since the loan covers most of the cost of the home.

If you make a larger down payment, however, your LTV will decrease. For instance, if your home is $150,000 and your mortgage is $110,000, because you made a down payment of $40,000 (instead of $10,000), then your LTV equals 73%.

Remember: you should aim for an LTV ratio of 80% or less.

3: Income and assets

You will have to prove to your lender that you maintain steady employment. For this reason, lenders typically ask for two years of proof of income and assets. The reliability of your income could dictate the interest rate the lender offers you.

While there are other factors that indicate to lenders whether you are likely to repay your loan on time, credit scores are at the top of the list. While the definition of a good credit score varies depending on the loan type, you generally want to be between 500 and 700. It is important to know your credit history for the mortgage type that best fits your financial needs.  

Have experience with working on your credit score to buy a house? Let us know in the comment section below what you did to reach your goal.