How Could Buying a Home Affect Your Credit Scores?
Many homeowners are very focused their credit before they purchase a home. And rightly so. A good credit score can help you get favorable loan terms and having good credit could be most important when you’re applying for a large loan, such as a mortgage.
However, homeowners shouldn’t forget about their credit after the move. Good credit could help you take out a personal loan for renovations or get 0-percent financing offers for appliances and furniture. Continuing to work on your credit could also help you qualify for a lower-rate mortgage if you want to refinance your mortgage later.
With that in mind, here’s an overview of how taking out a mortgage can impact your credit scores.
Taking out a mortgage could lower your credit scores
A mortgage is a type of installment loan — a loan that you repay with periodic installment payments over a predetermined amount of time. Opening a new installment loan (mortgage or otherwise) could hurt your scores in several ways:
- New hard inquiries. When you apply for a loan and creditors check your credit reports, a record of that credit check gets added to your credit reports. Hard inquiries can lower credit scores by a few points, although scores often rebound within a few months.
- A lower average age of accounts. Opening a new account will lower the average age of the accounts on your credit reports. Having a higher average age of accounts is generally better for your credit scores. Fortunately, this is a relatively small factor in determining credit scores. The mortgage account will also age as time goes by, which could help your scores.
- A large installment loan balance. When you first take out your mortgage, you’ll owe the full loan amount. Having a “maxed out” installment loan could hurt your credit scores, although it’s not a major scoring factor. On the other hand, maxing out credit cards can have a big negative impact on scores.
In general, a mortgage may slightly lower your credit scores. However, the drop could be temporary. You may notice your scores start to rise and even surpass where they were before you took out a mortgage, if there aren’t any new negative marks on your credit reports.
The good news — a mortgage can also help your scores
Credit scoring formulas are complicated and filled with nuance, and a mortgage can hurt and help your scores at the same time (but in different ways). Here are a few of the positives associated with taking out a mortgage:
- May increase your credit mix. Having a mix of different types of credit accounts could be good for your credit scores. If you aren’t already repaying an installment loan, such as an auto loan, mortgage, or student loan, then taking out a mortgage could add to your credit mix.
- Could add positive payment history to your credit reports. As you start to repay your mortgage, each on-time payment can help you create a history of positive payment activity in your credit reports. Your payment history is one of the most significant credit scoring factors and having multiple accounts with a long history of on-time payments is important if you want excellent credit.
Credit scores aside, a mortgage could impact your creditworthiness
Credit scores and creditworthiness sometimes get used interchangeably, but they’re not the same thing. A lender wants to know that you can afford to and are willing to repay the money you borrow. While a credit score can help determine this, creditors often look at a variety of factors before approving a new loan or credit card.
You likely already experienced this during the mortgage application process when you had to share details about your bank accounts balances, income, and expenses.
Although a mortgage application can be one of the most rigorous types of credit applications, other creditors will ask about your income and debts. Now that you have a monthly mortgage payment, that will become part of the equation.
You might be considered less creditworthy if your mortgage payments are higher than your previous rent payments because a larger portion of your income is going to your monthly payments.
What to do (and not do) after the move
If you got approved for a mortgage, you might already have a fair or good credit score — many types of mortgages required a credit score of at least 580 or 640. Implementing good credit habits could help you maintain your score or get into the excellent credit range.
- Don’t open too many new accounts. You may want to start furnishing your new home and take out loans or open retail cards. While another new account or two could help you save money if there’s a good financing offer, opening a lot of new accounts could lower your scores.
- Don’t charge everything. If you already have credit cards, you might be tempted to charge all your new purchases. However, if you can’t afford to pay the bill in full, you could wind up paying lots of interest on your credit card balances. Plus, carrying a balance can increase your utilization rate, which may lower your scores.
- Do keep paying bills on time. Moving can be stressful and overwhelming, but try not to lose track of your bills and miss a payment because late payments can hurt your credit scores. Continuing to pay all your bills on time, even if you can only afford minimum payments on credit cards, could help you build a positive credit history.
An initial drop in credit scores isn’t uncommon when someone applies for and opens a new account. However, positive credit habits, such as paying bills on time and keeping a low balance on credit cards, can offset the drop and help your credit scores and creditworthiness in the long run.