Credit Score for Mortgage Rates: How It Works

Credit Score for Mortgage Rates: How It Works
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When you begin shopping for a mortgage, you'll find that lenders consider your credit score an important factor in the approval process alongside your ability to afford the monthly payment. Calculated using several criteria, your credit score serves as an indicator to the lender of how risky you are as a borrower, and this determines both your mortgage program options and potential mortgage interest rates.

Use this guide to learn about common credit score criteria for mortgages and options for working on raising your score to get the best mortgages rates possible.

What Your Credit Score Is

Having a typical range of ​300 to 850​, a credit score takes into account certain characteristics regarding your use of credit and shows lenders your creditworthiness. While there is an alternate credit score called VantageScore, the Fair Isaac Corporation (FICO) score is usually used for lending decisions. Lenders obtain your credit score by pulling your credit information from one or more of the three credit bureaus – Equifax, TransUnion and Experian – and the number can vary from bureau to bureau.

With the FICO score model, your account balances (​30 percent​) and payment history (​35 percent​) make up the largest portion of your credit score. Your new credit applications (​10 percent​), mix of credit accounts (​10 percent​) and credit history length (​15 percent​) length make up a smaller portion. This means your credit score can be lower if you keep high balances, make payments late or have accounts go to collections. Actions like applying for too many lines of credit, not having much of a credit history or having just one or two types of accounts can have a less severe effect.

Any score ​under 580​ is considered poor with the myFICO model, while any score of ​580 to 669​ is fair. You need a score of ​670 to 739​ for good credit, ​740 to 799​ for very good credit and ​800 or higher​ for exceptional credit. Often, having at least fair credit helps with the mortgage process.

Why It Matters to Lenders

When lenders see your credit score during a mortgage application, they might worry you'll default on the loan if you have a bad credit history, and this can make it hard to get approved at all. Even if you don't have a poor credit score, you might run into issues getting approved for a specific loan amount or mortgage program.

Lenders can also charge you a higher interest rate for a lower credit score, and this can affect you immediately with larger mortgage payments and in the long term with a higher cost of borrowing.

How Credit Scores Affect Qualification

When you're exploring the types of mortgage loan programs out there, your credit score may limit your options since both lenders and certain agencies can set minimums that vary. Generally, government-backed programs seem to offer more flexibility, while programs offering the highest loan amounts are strictest. Here's an idea of what the minimums look like for qualifying for popular mortgage options as well as the target borrowers for each type of loan.

  • Conventional loans​: This very popular mortgage program comes with strict requirements, low down payment requirements and variety in loan terms that can appeal to people who have at least a fair credit score of ​620​. You can buy a home with just ​3 percent​ down and benefit from a competitive interest rate that will vary according to your credit score, property type, loan term and other factors. The government doesn't back conventional mortgages, so you have more options for property types. Private mortgage insurance (PMI) applies to these loans unless you make a ​20 percent​ down payment.
  • Veterans Affairs (VA) loans​: Targeting the specific audience of those with military experience plus qualified spouses, VA loans stand out for appealing features such as no program-specific minimum credit score, mortgage insurance or down payment. Ultimately, your lender can ask for a down payment in certain situations or request a ​620​ or higher credit score, but requirements will vary, and flexibility exists with income requirements too. Instead of the PMI, you have a funding fee for taking out the loan.
  • U.S. Department of Agriculture (USDA) loans​: Made for people buying rural properties, USDA loans don't have a minimum credit score set by the government, but lenders might require a score even higher than the minimum for conventional loans such as ​640 or 660​. The program stands out for no down payment needed, but it has tighter qualifications with area income limits and lower debt-to-income (DTI) ratios than other options. Two guarantee fees – one upfront and one monthly – apply.
  • Jumbo loans​: These special loans go beyond the typical location-based conforming loan limits that range from ​$484,350 to $726,525​, so they target people buying high-priced properties. Since such high loan amounts can cause more risk to lenders, they want to see a good credit score of at least ​680 or 700​ and likely a ​20 percent​ down payment. You can expect your interest rate to be a bit higher and the DTI ratio maximum lower than for a conventional loan. Lenders often ask for cash reserves too.
  • Federal Housing Administration (FHA) loans​: If you're looking for an option that accepts the lowest minimum credit score, then FHA loans allow people with poor credit scores as low as ​500​ to qualify. This government-backed program does require people with a credit score ​under 580​ to have a ​10 percent​ down payment for their home compared to a much smaller ​3.5 percent​ if your score exceeds ​580​. You might consider this option if you're a first-time home buyer who wants an easier qualification process, doesn't mind paying both upfront and monthly mortgage insurance and buys a property within the FHA loan limits.

How Credit Scores Affect Rates

In addition to helping determine your mortgage loan options, your credit score affects the mortgage interest rate you pay regardless of the program you choose, since your credit score advises lenders of how risky of a borrower you are. Generally, the lower your credit score is, the higher the interest rate you'll pay to compensate for that risk. So, doing some work to get your credit score as high as possible can help you save money in interest and also have an effect on how much your mortgage payment runs each month.

According to April 2021 national average data from myFICO, a person taking out a mortgage with a ​620​ credit score might pay an interest rate of ​4.433 percent​ for a mortgage, while the same mortgage with a ​660​ credit score might have a ​3.457 percent​ rate. A borrower with a ​720​ credit score could pay ​3.066 percent​ compared to ​2.844 percent​ for someone with a score of at least ​760​.

To get an idea of how these small differences in mortgage rates can matter to you financially, consider the effect they would have on your monthly payment for a ​$300,000​ mortgage. With the same myFICO data used, your estimated principal and interest payment with a ​30-year​ fixed-rate home loan would be ​$1,005​ with a ​620​ credit score, ​$893​ with a ​660​ credit score, ​$850​ with a ​720​ credit score and ​$826​ with a ​760​ credit score. Payments would range from ​$1,366 to $1,523​ with a ​15-year​ fixed-rate mortgage for the same mortgage and credit score ranges.

Finding Your Current Credit Score

If you wonder where your credit score currently falls, you can check out your own credit score as well as review your credit report to see factors that might lower your score. For example, you can pay a fee to get your score directly through myFICO, or you can sign up for one of the monitoring services through the credit bureaus for this information. The Consumer Financial Protection Bureau recommends also seeking free options, like a credit score offered through an existing credit account or online services like Credit Karma.

Dealing With Your Credit Score

In cases where your credit score keeps you from mortgage qualification or good interest rates, you could consider moving forward with a creditworthy co-borrower who may or may not live in the home with you. That way, the lender takes into account the person's better credit score so that you have a better chance of getting approved and receiving better mortgage interest rates.

Your other option is to take steps to fix your credit situation so you can qualify without another person's help.

Here are some strategies to try:

  • Make a note of credit accounts with high balances and contribute more monthly to those accounts or pay off the balances in full if possible.
  • Set up reminders or automatic payments to make it less likely to miss any of your credit card or loan payments.
  • Don't add to your current credit balances, open unnecessary accounts or close existing accounts that contribute to your credit score.
  • Review your credit reports from each of the bureaus to make sure they don't contain errors like unrecognized accounts or incorrect public records, and go through the resolution process to resolve any issues.
  • Take advantage of credit monitoring services to see how specific actions have changed your score, and use simulators that show how a step like lowering an account balance or waiting a certain amount of time might help your credit score.

Remembering Other Key Financial Requirements

Even with a great credit score, you can run into issues with mortgage program qualification if you fail to meet other lender requirements. So, it's important to read the details for the mortgage options that interest you to get specifics and narrow down what might work best for you.

For example, make sure you have a large enough income and low enough debt level to comfortably afford your desired mortgage payment since lenders will calculate DTI ratios on the front end (housing payment) and back end (total debts) and look at specific program limits. Also make sure you can provide the necessary down payment, prove a stable income and show any cash reserves that the lender requires.

Finding Out About Mortgage Qualification

To get an answer about whether your credit score and other financial data allow you to qualify for a mortgage, find a lender who can look at your financial situation and discuss your options. This means going through the prequalification or preapproval process. During this step, the lender pulls your credit and uses your credit score plus information about your debts, income and assets to explore whether you're likely to be approved for a mortgage. You'll come out of the process with an idea of the type of mortgage rate and home loan amount you can afford.

For your convenience, you can often go through the whole preapproval or prequalification online, although you might speak to a loan officer in some cases. For example, PNC Bank has an online application process where you can digitally verify financial information like your income and cash reserves and avoid needing to upload this proof like some lenders might require. If you ultimately decide to move forward with the mortgage and a home purchase, you can expect more application steps, such as filling out detailed forms and submitting documents.

Since a preapproval or prequalification doesn't necessarily mean a final approval for a mortgage, keep your credit score in good shape as you move along the process. This means avoiding things like missed payments, new accounts and higher balances so that your score doesn't fall or lead to other issues that can affect the underwriting process.