How Your Credit Score Can Affect the Interest Rate on Your Loan

Your credit score has a significant impact on the interest rate you will receive on your mortgage.

In general, consumers with higher credit scores receive lower interest rates than those with lower credit scores. Lenders use your credit score to predict how reliable you will be in paying back your loan. The higher your credit score, the lower the risk you pose to the lender, and the lower the interest rate they will offer you.

For example, on a $300,000 mortgage, the difference in monthly payments between a borrower with a 780 FICO score getting a 4% rate and a borrower with a 680-699 FICO score getting a 4.5% rate is $62 per month, or $744 per year. Over the 30-year life of the loan, that 100-point difference in credit scores could cost the borrower an additional $25,300 in interest.

Exactly how do lenders look at credit scores?

Your credit score — or FICO®, as it’s often referred to — is a mathematical calculation used when determining the amount of risk a lender would be taking in offering you a credit card, a car loan, a student loan, or a mortgage.

Scores range from 300-850 and are calculated from multiple factors that make up a percentage of your payment history. The higher the score, the lower the risk. There are three different agencies that make credit scores available to you and prospective lenders. Each agency tracks your credit history and compares the results to the general population: Equifax, Experian, and TransUnion.

Lenders typically look at the middle credit score from the three major credit reporting agencies (Equifax, Experian, TransUnion) when determining your mortgage rate. Having errors on your credit report can artificially lower your score and lead to a higher rate, so it’s important to check your report and correct any issues before applying for a mortgage.

Type of information found on your credit report

Your personal information, including your name, address, social security number, date of birth, and employment details, is the foundation of your credit report and plays a crucial role in determining your creditworthiness.

Your account summary includes:

• The types of credit you use – credit cards, car loans, mortgage, etc.
• The length of time those accounts have been open
• Whether your bills were paid on time
• How much credit you’ve used
• Amounts owed
• Any “new credit” applied for recently

The five factors of your credit score

1. Payment History (accounts for 35% of your credit score):

• Review of all credit card accounts, retail accounts, installment loans, finance company accounts, and mortgage loans
• Payment history, bankruptcies, foreclosures, law suits, garnishments, items in collection, liens, judgements, or other matters of public record

2. Amounts Owed (accounts for 30% of your credit score):

• All types of credit accounts
• The number of accounts with current balances
• How much each individual credit line is used
• Outstanding amounts on installment loans

3. Length of Credit History (accounts for 15% of your credit score):

• How long accounts have been open
• How long since each account was used

4. Types of Credit (accounts for 10% of your credit score):

• Types of credit accounts
• Number of each type

5. New Credit (accounts for 10% of your credit score):

• Number of new accounts by type
• Length of time since you last opened a new account
• Number of recent requests for your credit report (inquires remain on the report for two years but the score only looks at the past 12 months)
• Length of time since credit inquiries were made by lenders
• Whether you have a good recent history following past payment problems

How to improve your credit score to get a lower mortgage interest rate

Okay, let’s look at how you can boost your credit score to get a better mortgage rate. The key is to focus on these key areas:

• Make all payments on time. Your payment history is the most significant factor in your credit score, so ensuring you pay all bills on time is crucial
• Pay down credit card and other debt balances. Keeping your credit utilization ratio (amount owed vs. credit limit) below 30% can significantly boost your credit score
• Avoid applying for new credit in the months leading up to your mortgage application. New credit inquiries can temporarily lower your score
• Correct any errors on your credit report. Disputing and resolving inaccuracies can improve your score
• Increase the length of your credit history over time. The longer your credit history, the better for your score
• Consider a shorter mortgage term. Lenders may offer lower rates for 15-year mortgages compared to 30-year terms. 7. Make a larger down payment. A higher down payment can lower your loan-to-value ratio, which lenders view as less risky

By taking these steps to improve your credit profile, you can qualify for a significantly lower mortgage interest rate, potentially saving you tens of thousands of dollars over the life of the loan.

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To get your current score and dispute any errors you may have, contact the agencies directly:

Equifax: (800) 685-1111, www.equifax.com

Experian: (formerly TRW): (888) 397-3742, www.experian.com

TransUnion: (800) 888-4213, www.transunion.com

See also: How Personal Finance Influence your Home Loan