How credit score affects your mortgage cost
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After years of rock-bottom interest rates, mortgage rates are slowly climbing upward. For those who are planning to buy a home, it’s important to understand the importance of your credit score when it comes to affording a home. Many people worry simply about getting approved for a home loan, but the larger concern should be getting a reasonable interest rate—and your credit score is one of the primary factors driving the interest rates you’ll be offered.
New Study Shows Credit Score is Primary Determiner
A recent study by Realtor.com examined 170,000 mortgages written in a two-month period in Fall 2016, and the results are illuminating. They examined 30-year mortgages under a fixed rate loan and the credit scores of those who obtained the mortgages.Unsurprisingly, those with higher credit scores obtained mortgages with lower interest rates. In addition to credit score, the borrower’s income, other debt load, and the type of loan affected the rate offered.
The study also showed that raising your credit score by as little as 25 points can get you a much more favorable interest rate on your mortgage. For those with higher credit scores, the other determining factors played more heavily into the rates they were offered, including income, stability of income, type of loan, and how much other debt they were carrying. In short, the mortgage lender wants to see right away that you can afford the loan and that you’re not up to your neck in other debt.
How Much Can Your Interest Rate Change Based On Score?
The same study showed a median interest rate of 3.62% for those with credit scores from 725-850. A 25-point drop between 725-750 could see those borrowers paying as high as 4% compared to a high of just 3.88% for those in the next highest tier. Once you drop below 725, the numbers skew more. At 700-725, median scores are 3.75% and can stretch up to 4.12% depending on other factors.
Dropping down to a FICO score of 675-700 means your outer limit could be as high as 4.25%. When it gets down to 650-675, the rates scoot out to 4.38% and to 4.5% for those between 625-650 credit score. Below 625 and you’re not likely to be approved for a mortgage and, if you are, the terms might be very disadvantageous. Rather than taking the hit, why not work on your credit score first and postpone applying for a mortgage until you’re better prepared?
How Much Does This Really Cost You?
On a $250,000 home with 5% down ($12,500), the median rate for the highest tier of credit scores (3.62%) would give you an estimated monthly payment of $1,08.45. At the next tier, 3.88% interest bumps you to $1,117. One more drop down to the outer limit of 4.25% will take you up to $1,168. Drop to the 4.38% rate and you’re at $1,186.50. The 4.5% rate takes you to $1,203.38. This may not seem like that big of a deal, but the disparity can increase between payments if you can’t put 5% down and the principal is greater.
With the most affordable loan above (3.62%), you will pay$152k in interest. At the higher 4.5% rate from the lowest credit score calculated above, the interest jumps to $195k. The total of interest payments is $433k at the higher interest rate and $389k at the lower rate. That’s $44,000 that could have gone into your retirement account or other investment. You could put that $1,428 a year difference into your 401(k), and it could turn into almost $125k extra to see you through your golden years.
The bottom line is that a better interest rate driven by a higher credit score will save you money in the long-run on your mortgage, make it easier to manage your finances, and put more money away into retirement savings. If you’ve gone through a bankruptcy, you can still work to improve your credit score to get approved for a mortgage. To find out more, contact Credit Score Keys today for a free consultation about boosting your credit score after bankruptcy. Call 919-495-2365.