How to Make Improving Your Credit Your New Year Resolution
12.20.2021 | Category: Homebuying
The new year is all about fresh starts, new beginnings and resolution setting… making it an ideal time for improving your credit to get your finances ready for buying a home.
Details like your creditworthiness, debt and income are all really important factors in being approved for a home mortgage loan. As well as how much you have saved for a down payment, your employment history and the desired value of your new home.
If you're thinking about purchasing property next year, don't wait until January to consider your credit decisions. The holiday season brings about shopping and the temptation to charge large purchases, but what you buy and finance now could impact your credit score when it's time to buy a house. If your credit is in good standing, just one maxed out credit card could significantly impact your score.
Resist the urge to charge all your holiday purchases and remember these helpful tips for improving your credit score or for keeping your credit score in good shape.
Step 1: Check your Credit Report
As with any goal, you'll want to know where you're starting from. Credit consumers in the U.S. are entitled to one free credit report yearly from each of the three major credit bureaus through www.annualcreditreport.com, the only federally authorized website for obtaining free credit reports. Now through April 2022, all three major credit bureaus have agreed to offer free weekly credit reports to all consumers to monitor their credit more regularly. This is to help monitor changes in your credit as consumers continue to navigate an unpredictable economy due to the pandemic.
Once you have your credit report, there are some important details you should review:
- Personal information: The first thing you will want to look at when you pull your credit report is the accuracy of your personal information. Take a careful look to be sure there aren't any names, addresses or phone numbers you don't recognize. If you do find any inaccurate personal information, you can work with any of the three credit bureaus to have it removed.
- Credit accounts: You will also want to carefully review for any unfamiliar lines of credit, including credit cards, student loans or mortgages. If you do find lines of credit that you don't recognize, this could be a sign of identity theft or fraud and you should immediately contact one of the three credit bureaus to report the activity.
- Inquires: There are two types of inquiries you should review on your credit report: hard inquiries and soft increase. Hard inquiries require you to authorize a potential lender for credit approval. Soft inquiries are used to market lending offers to you. You shouldn't see any hard inquiries you don't recognize. If you do see hard inquiries you don't recognize, this is another item that should be reported to the credit bureaus immediately.
- Public records: Bankruptcies, leans, defaults and foreclosures are all public records that can be included on your credit report. If any of these items are on your credit report and you aren't aware of them, you should also report this activity to one of the three credit bureaus.
If everything on your credit report looks accurate, this will give you a great baseline for improving your credit activity and setting your credit New Year's resolution.
Setting Your Credit Goals
The way you manage your credit is one of the most important factors when seeking a home mortgage loan. Your credit score and credit history create a detailed record of how you handle credit and show if you’re responsible for home loan payment.
Your credit score is calculated using five factors that take into consideration how you use credit. Generally, information that impacts your credit score stays on your credit report for seven years, except for a bankruptcy, which will be included in your credit file for 10 years.
Here’s a breakdown of the most common items found on your credit report and how long they stay:
- Payment history is the most important factor when calculating your credit score. It accounts for approximately 35% of your credit score. Even one missed payment can negatively impact your credit score and stay on your credit report for seven years.
- Credit usage or credit utilization ratio is determined by dividing your revolving credit by the total of your credit limits and makes up about 30% of your score. Using more than 30% of your available credit can impact your credit score. Staying below 30% of your credit limit for a long period of time can greatly help your credit score.
- Credit history or how long you’ve held credit cards is another factor in your creditworthiness and is roughly 15% of your credit score. The longer you’ve held a credit card, loan or other line of credit positively impacts your credit score. Typically, a line of credit will stay on your credit report for seven years. However, in the case of long-term loans like home mortgage loans, the most recent activity will stay on your credit report for up to ten years.
- Credit mix is the different types of credit you manage and could include major credit cards, retail cards, auto loans, student debt or other credit products. Lenders like to see you can handle a variety of debt and your credit mix accounts for about 10% of your credit score and will appear on your credit report for seven years.
- Inquiries are what is included in your credit report when you file a loan application for a new line of credit and is about 10% of your credit score. These only stay on your credit report for two years but too many inquiries in a short period of time - say a credit card application, a retail card application and a home loan application - could impact your prospects for being approved for a home mortgage loan.
Tackling Debt in the New Year
Your total amount of debt divided by your gross monthly income is called your debt-to-income ratio and is used by lenders to measure your ability to be responsible for the monthly payments of a new loan.
To determine your debt-to-income ratio, also called your DTI ratio, you add up all your monthly loan payments and divide them by your gross monthly income. If you’re looking to buy a home, it’s important to work to get your DTI ratio lower than 43% in most cases to be approved for a home mortgage loan with a competitive rate.
Often, when prospective home buyers are looking to improve their DTI, they can take these important steps:
- Pay off low loan balances first. Sometimes a little goes a long way and paying the balance of a low credit line - like the balance on a retail card - may really cut into your DTI by freeing that revolving debt.
- Pay down high interest loans next. If your creditor allows you to pay more than the minimum payment due to avoid interest, consider taking advantage of the opportunity to pay down the debt faster, without accruing additional interest.
- Roll balances into a low-interest loan or zero-interest line of credit. If you have a strong credit standing or a high maximum limit on your credit cards, some credit card companies will allow you to move of your balance from one line of credit to another at a lower rate or even at 0% for a defined set a time, allowing you to pay down debt faster than you would have if you didn’t transfer the debt.
Be sure not to mistake the offer with a loan consolidation or loan restructuring, which can sometimes negatively impact your credit score. This is a common mistake and is often applied to student loans, small business loans or personal lines of credit.
- Assess your earnings. While employment won't directly be reflected on your credit report, how much you earn will determine how well you can manage debt. Additionally, reliable income and steady employment are vital when going through the home mortgage approval process. Many lenders like to see that a home loan applicant can show a consistent two-year history of employment.
In today's market, lenders understand that homebuyers may have recently changed employers. Even if you landed a new job recently, you can still qualify as long as you can show regular income and consistent credits payments.
If you already have a long history of using credit wisely, saving well and staying within your budget, you're likely already on your way toward reaching your home ownership goals.
When you’re ready to seek pre-approval, you will want to work with a lender to confirm the loan type that best suits your needs and the amount of loan you can qualify for based on your creditworthiness, debt, and income.
This is a great time to work with a reputable lender like Mutual of Omaha Mortgage to get pre-approved for a home mortgage loan or understand the areas you can work on to be qualified for a top tier offer.
While buying a new home isn't something you can do overnight, it is a resolution you can realistically achieve next year.