If you're asking what credit score is needed to buy a house, then you probably are thinking about jumping into the real estate market. There is only one way that a credit score won't affect your ability to buy a house: If you are paying cash.
If you can do that, you are in rarified air. For everyone else, read on to find out what you need to know about credit scores and buying a house.
Different companies issue credit scores for individuals by examining their credit histories and credit reports. They issue a number, a score, to indicate creditworthiness. Mortgage lenders pay attention to that score.
A low score means it's too risky to loan someone a large sum of money over the long term, like the 30 years for a typical mortgage. A person might have a history of not repaying loans or making late payments, or taking on more debt than he could be expected to repay. A low score also might reflect little or no credit history, which means a mortgage lender has no information to go by.
Even if it's not a deal-killer, a bad credit score will affect whether you can get particular types of loans and the mortgage rate you pay.
Let’s look at this according to the loan options available.
A conventional loan is made by a private lender, such as a bank, and is not backed by the federal government. More than 60 percent of the mortgages in the country are conventional loans.
You need a FICO score of 620 or higher to qualify. But don't stop there. The higher your score, the better off you are.
A myFICO credit score calculator shows that for a $300,000 mortgage, someone with a credit score at the low end, 620-639, would likely get an interest rate of 4.175 percent for a $1,463 monthly payment of principal and interest on a 30-year mortgage.
Homebuyers with the highest scores, 760-850, are likely to get mortgage rates as low as 2.586 percent for a payment of $1,199. That’s a savings of $264 a month.
In addition, if a borrower doesn’t have a 20 percent down payment and must buy private mortgage insurance, or PMI, he’ll pay more for it if he has a lower credit score.
These home loans, which are desirable for their low down payments, are backed by the Federal Housing Administration. One of the FHA’s goals is to make housing more affordable, so it has lower credit score requirements.
A FICO score of 580 qualifies a borrower for the FHA’s lowest down payment, about 3.5 percent. People with a score in the low 500s might still qualify for an FHA loan, but they will have to put down at least 10 percent.
The government-backed VA loan – for eligible veterans, active-duty service members, and their spouses – does not require a down payment.
The Veterans Affairs Department does not set a minimum credit score, but lenders do. The range is about 580 to 620.
The U.S. Department of Agriculture backs these loans for the purchase of homes in rural areas. The government does not set a minimum credit score for eligibility. Mortgage lenders, however, generally look for a score of at least 640 for a USDA loan.
These conventional loans are called non-conforming because they are for very high amounts, at least roughly $550,000 in most parts of the country. Because they are for high amounts, lenders look for high credit scores, probably 700 to 720.
The opposite loan type, which covers most conventional loans, conforms to lending standards set by Fannie Mae and Freddie Mac. That means these government-sponsored businesses will buy the loan from the lender, allowing the lender to regain the capital to make more loans right away instead of waiting up to 30 years to collect the full amount on the loan.
Overall, a lower credit score means you'll find higher interest rates. A great score means you get better loan terms and lower interest rates.
When talk turns to credit scores, it usually refers to the FICO score, originated by the Fair Isaac Corporation in 1956. Other companies issue credit scores as well as the credit reports that are used in compiling the scores.
The three major credit bureaus, Equifax, Experian, and TransUnion, launched VantageScore in 2006 to compete with FICO and other scoring agencies.
Just to keep things interesting, there are multiple FICO scores and VantageScores that analyze your credit history and data in slightly different ways.
FICO and VantageScore each range from 300 to 850.
Here’s how FICO labels the scores:
According to a report by Experian, here’s the breakdown in the U.S. for credit scores:
So, a great credit score to buy a house is 800 and up. That’s where you will get the best interest rates. A prime score for buying a house is 620 to 799. A bad score is below 620.
The average FICO score for mortgage loans closed in 2020 was just under 750, according to Ellie Mae, a software company that processes 35% of U.S. mortgage applications.
There are two ways of looking at this: which of a person’s scores are considered, and which persons’ scores are considered when more than one name will appear on the mortgage.
For an individual, a lender typically pulls credit reports from the big three bureaus.
The FICO score remains the gold standard. As we mentioned earlier, the bureaus all do things a little differently, so mortgage lenders request particular types of FICO scores from each one.
If the three scores differ, the middle one usually is chosen. If two of the three scores are the same, a lender will usually choose that one.
When a couple applies for a loan together, the lender will consider the lower of their scores.
Before beginning the home buying process, both partners should check their credit scores and see what improvements they can make.
No. Other factors can hurt your chances of getting approved for a mortgage, even if you have a prime score. Likewise, certain things count in your favor even if you have a lower score. Here’s a look at some of the major factors:
This figure shows the debt load you carry.
Take your monthly debt – like student loans, credit cards, car payments, and current house payments – and divide it by your gross income (before taxes and other deductions).
If your monthly income is $4,000 and your debt payments are $2,000, you have a DTI of 50 percent $2,000/$4,000=.50, or 50 percent).
Lower is better. One lender, Wells Fargo, considers 35 percent and below to be good, while 36 percent to 49 percent puts you in the “Opportunity to improve” category.
This figure, called LTV, is the loan amount divided by the house purchase price.
If you are buying a $250,000 house with a $10,000 down payment, your LTV is 96 percent (240,000/250,000 = 0.96, or 96 percent).
The higher the percentage, the riskier the loan is for the lender.
Lenders like you to put 20 percent or more down, which means an LTV or 80 percent or less.
Reflecting that risk factor, if you put down less than 20 percent, you'll probably have to pay for private mortgage insurance to protect the bank if you can’t make your payments.
When the LTV gets to 20 percent, the PMI pain stops for the homeowner.
Lenders also look at an applicant’s income, employment status, savings, total assets, debt, the location of the home, and its price.
A credit score plays a major role in qualifying someone to take out a mortgage.
But it is not the only factor. A homebuyer must be aware of the many effects a credit score can have while weighing what type of loan to apply for, what interest rates are possible, how big the down payment should be, and how much house is affordable.
What you don't know about your credit score can really cost you when buying a house.