Buying a home is a dream many adults have at some point during their lifetime, but most don’t have the cash set aside to purchase a house outright. Instead, a mortgage is needed to finance such a major purchase and make it affordable to the average consumer. A mortgage is simply a loan used for a real estate transaction, offered by a bank, credit union, or another lender.
With a mortgage, the lender pays the lump sum amount to the home seller, and payments are made back to that lender by the home buyer over the course of the loan term. Repayment of a mortgage loan includes principal – the original amount borrowed to finance the transaction – and interest – the cost of borrowing.
Securing a mortgage for a home purchase can be a daunting process. This is because a home is a large purchase that involves a great deal of risk for all parties involved. Lenders must feel comfortable that the individual borrowing the funds is responsible enough to repay the principal and interest back over time, per the mortgage agreement. To evaluate the responsibility of the borrower, lenders take a close look at credit history and credit scores, as these tools provide a detailed track record of money management. Without a strong credit profile, prospective homebuyers may find it difficult to secure a mortgage that is affordable for the long-term. So with that in mind, what is a good credit score to buy a house?
Credit and Mortgage Loans
Every lender differs when it comes to qualification criteria for getting a mortgage loan, but some basic requirements must typically be met to be eligible. First, a borrower’s credit score must be high enough to show potential mortgage lenders that they have a solid history of using credit in a smart way. The credit score spectrum, which ranges from 300 to 850, is used to determine how creditworthy a borrower is and the possibility of that borrower not repaying their debt. The credit score spectrum is simply the range of scores lenders use to base lending decisions upon, which often resembles the following:
- Excellent credit: 750 and above
- Good credit: 700-749
- Fair credit: 650-699
- Poor credit: 600-649
- Bad credit: 600 and below
Because a mortgage represents a large, long-term commitment, lenders typically prefer borrowers who have a credit score that falls within the excellent and good credit ranges. Some lenders may offer a mortgage loan to borrowers with credit in the fair and poor ranges, but the total cost of borrowing, represented as the interest rate, may be far higher than those with excellent or good credit.
Each lender has its own guidelines for gauging the creditworthiness of borrowers based on these general credit score ranges, but the type of mortgage used to finance a home purchase may play a role as well. For example, an FHA home loan, or one insured by the Federal Housing Administration, is a program designed for borrowers who may have a small down payment or less than ideal credit. Lenders that offer FHA home loans may approve a new mortgage loan for a borrower with a credit score as low as 580, so long as other qualifying criteria are met. Similarly, the Department of Veterans Affairs works with several lenders to make home ownership a reality for military veterans and their families.
A VA home loan may require no down payment, and the minimum credit score ranges from 580 to 620, depending on the lender. However, conventional mortgage loans typically require a credit score of at least 620, and borrowers with higher scores may qualify for lower interest rates or more favorable repayment terms over the life of the loan.
What If You Don’t Meet the Minimum Requirement?
When it comes to determining what credit score is needed to buy a house meeting the minimum credit score requirement can be a challenge for certain individuals. These individuals may have had financial mishaps in the past, such as filing for bankruptcy, or have not had enough time to establish a credit track record. If you do not meet the minimum credit score requirements, you may have the option to qualify for a mortgage loan in other ways.
Some lenders use a borrower’s income as a means to determine eligibility when a credit score is low. Others may approve a mortgage loan when a significant down payment amount is brought to the table. When these are not viable options for borrowers, however, improving credit and delaying a home purchase may be the best next step.
Credit scores seem confusing at first, but the tiny three-digit number is easily broken down into the financial factors that go into the score calculation. All credit scores are calculated based on information provided to the three credit reporting agencies: Equifax, Experian, and TransUnion. Details found in an individual’s credit report from each credit bureau includes any debts owed, if those debts are paid on time and in full or if they are delinquent, past debts, inquiries from creditors, and any information relating to court judgments, bankruptcies, or debt settlements.
When borrowers have several negative marks on their credit report, such as a bankruptcy, an account in collections, or a credit card that is consistently pushed to its credit limit, the credit score calculation is negatively impacted.
To improve credit so that homeownership can become a reality, prospective homebuyers should focus on bringing any negative accounts current, either by paying off amounts owed or coming to a repayment agreement directly with the creditor. Similarly, individuals with poor credit should work to reduce their total credit usage by paying down credit card balances, loans, or other debts. Making on-time payments to creditors and using no more than 30 percent of available credit limits are powerful steps toward improving credit scores in the short term.
Qualifying for a mortgage requires a strong history of financial responsibility, and one’s credit score is a direct indication of how fit an individual is from a money management perspective. Understanding what credit score is needed to buy a house, and how it relates to mortgage loans, is beneficial in the process, as is knowing what to do when your credit needs improvement.