What You Need to Know About Home Loans and Credit Scores

Lenders consider a variety of factors when issuing mortgage loans, including job history, debt-to-income ratio, income & assets, and the amount your down payment will be. However, their primary concern is credit score. It's important to check your credit report for errors and areas of improvement.


Your credit score may influence the type of loan you seek. FHA-insured loans generally have lower credit score requirements than conventional loans. It's often easier for a person to qualify who 1) lost a home in a short sale or foreclosure to get a new mortgage faster, and 2) has damaged credit. However, with an FHA-insured loan, you must pay mortgage insurance on the loan--which is often for the life of the loan, and higher than private mortgage insurance if you make a down payment of less than 20 percent.

Conventional lenders look more exclusively at credit score when issuing loans. Private mortgage insurance is automatically cancelled when your loan-to-value ratio reaches 78 percent.

The simplest way to boost credit score is to pay all your bills on time. Take these additional steps to boost your credit score over time:

• Pay off collections or judgments against you ASAP
• Update your over-the-limit and post-due accounts
• Reduce your credit card debt to no more than 25%  of your credit line on each card
• Don't open new lines of credit
• Don't close your credit card accounts (you'll be using more of your overall credit limit if you do)
• Use a credit card you haven't used for a long time, then pay the bill in full. This demonstrates your ability to responsibly handle credit. 

Want to know more? Read about how the FICO credit score is calculated and 7 mistakes that can lower your credit score. 

FHA Loan Modifications Hurt Borrowers

On April 1^st of this year, the U.S. Department of Housing and Urban Development (HUD) raised the annual Mortgage Insurance Premium (MIP) by 10 basis points, hoping to strengthen the Federal Housing Administration (FHA) insurance fund and decease FHA’s market share. Moreover, as of July 3^rd, the annual premium no longer cancels at 78 percent loan to value (LTV).

Marianne Collins, executive director and COO of Ohio Mortgage Bankers Association, writes in In Contract magazine that these alterations may make FHA the “loan of last resort.” Monthly conventional Private Mortgage Insurance (PMI) doesn’t have an up-front premium the way FHA does. Additionally, PMI continues to drop off at 78 percent LTV.

A borrower with a 680 credit score and 3 percent down payment would pay much more for a FHA loan requiring a down payment of 3.5 percent than s/he would for conventional monthly private mortgage insurance. Conventional PMI will even be lower at a credit score of 660 and a 5 percent down payment. Due to the lower cost of conventional PMI when compared to FHA MIP, private mortgage insurance companies are “making a huge comeback.”

Collins adds that only borrowers in high risk situations (such as those with low credit scores and brief periods since foreclosures and bankruptcies) have a reason to consider FHA for their financing. This could lead to a high default rate, because higher credit scores are absent to balance out the portfolio. Finally, Collins argues that FHA should do the opposite of what it has implemented: it should reward good credit by offering an insurance premium lower than private mortgage insurance for borrowers with good credit. To view FHA loan requirements, click here. For an additional explanation of FHA mortgage insurance and its changes, watch the YouTube video below.