We’re getting a head start on New Year’s Resolutions season by laying out a road map to homeownership in 2020! This week, getting your credit profile mortgage-ready.
Big ticket purchase items like major appliances, cars, and yes, a home of your own, require many of us to borrow money up front and pay it back over time. But how much money will the bank loan a person?
First off, remember that just because you may qualify for a certain amount, that doesn’t mean you need to actually borrow and spend that amount. For example, you may qualify for enough money to buy a new Lincoln. But you may be able to get by just fine with a gently used late-model Honda. The difference in payments between the two could be enough to save up for a mortgage down payment over time. It could even be the difference between being financially comfortable and being strapped for cash at the end of each month. The more you borrow beyond what you really need, the less leeway you’ll have for other needs that come up and the less you’ll save over time to achieve big goals like homeownership.
Now that that’s out of the way, let’s look at what goes into determining the amount a lender is willing to offer you. Your credit score is just the first piece of the puzzle. It determines whether you qualify for a loan in the first place, and if so, at what interest rate you’ll be charged each month for use of the money. If you qualify for the loan, the better your credit score, the lower the interest rate you’ll pay.
The second piece of the puzzle is the loan-to-value ratio. You won’t be offered a $100,000 loan for a used Honda. The bank relies on the value of the asset you’re purchasing to make them whole if you fail to repay the money they loaned you. If you borrow money to buy a car and fail to pay it back, the bank can and will take the car back from you as repayment. You’ll also be left with a serious blemish on your credit record that will make getting a future loan much more difficult.
The last piece of the puzzle is your debt-to-income ratio. You can have perfect credit and a steady job making $60,000/year and you’re still not going to qualify to borrow $10 million for five years on your own. Banks need to see that you will be able to repay the loan based on your current income minus any existing loans or obligations you currently have say experts. This is a big factor in mortgage loan amounts.
One final note on credit scores – it’s a given that credit card accounts have credit limits. Even though you have the full amount available to use, carrying the entire amount as debt month-to month is detrimental to your credit score. In fact, your credit score suffers if you carry over more than just 30 percent of your limit each month. In other words, if you’re carrying $600 in credit card debt, it’s better to have two cards with their own individual $1,000 limits than to have a single card with a single $1,000 limit.
For more information on getting your credit mortgage-ready, be sure to connect with a homeownership advisor!