How can I maximize my credit worthiness?
This month, Zack Tolmie, Home Lending Officer at Citi Bank, is guest-penning this column since he is the better expert on credit. Click here to reach Zack with any questions.
The difference between a 699 and a 700 credit score could mean the difference between getting approved or denied for a mortgage, or the difference of .25% on your mortgage rate. On a $500,000 loan, that’s a difference of over $25,000 in thirty years. Credit scores are critical when it comes to qualifying and getting the best interest rate on a mortgage, so if you’re thinking about buying a home in the future, there are things you should be doing now to ensure your score is the best it can be.
The first step is obtaining your free credit report at www.annualcreditreport.com. Do not worry about or pay for your credit score because the scores available to consumers are completely different than the scores that lenders look at, so the score you see on a consumer report has no value to you or a bank. You can also ask your mortgage banker to pull your credit report. He can pull your report for free and let you know the exact score that lenders would see. You should go through the information in the report and make sure that it does not include any credit accounts that don’t belong to you (identity theft). If there are, call the credit reporting agencies to report this identity theft and have them remove the fraudulent reporting.
Also identify all creditors to whom you owe money. Long-forgotten and outstanding medical bills, parking tickets, or even overdue library late-fees can be sent to collection agencies and reported to your credit report, and can drop your score by upwards of 100 points. Your report will show if the collection account has been paid or not, will tell you which company now owns the debt, and how to contact them. However, once it is on your report, it has done its damage. Paying off the debt will not improve your credit score. What CAN affect the score, though, is if you get it removed. Sometimes, collection agencies will agree to remove the record of your collection if you pay the balance in full (called “pay for delete”). Be sure to get this promise in writing. Whatever you do, DO NOT settle the account for less than is due. This will be an additional tumble to your score. If the company will not remove the record from your report, you may want to contact a credit repair company. These services are expensive, but may be worth it if it can lower your interest rate. Ask your real estate agent or mortgage banker for a recommendation of someone they trust.
Once you’ve fixed any past blunders or mistakes, focus on your account balances. Your debt-utilization-ratio is the percentage of how much credit you use compared to how much you have available to you. To maximize your credit score, you should be using 10% or less of your available credit. This means that if you have a $10,000 credit card limit, you should never have a balance of more than $1,000 on your card. If you have some credit cards that you do not use, do not close them. These unused cards will help offset some of your higher utilized credit cards. If you’re worried you are using too much of available balance, asking for an increase to your credit line may increase your credit score in the long run.
However, opening new accounts will hurt your score in the short-term. Do not apply for any credit cards, line increases, personal loans, or car loans in the three-month period leading up to a mortgage transaction. Obtaining new debt, and even applying for new debt, will hurt your score temporarily. The credit score algorithm takes into consideration that borrowers will call several banks when shopping for a mortgage rate, so you can feel free to call as many banks as you’d like. However, keep these inquiries to a period of a few weeks. Do not call Bank A in July, Bank B in September, and then Bank C in November.
The final determinant of your credit score is the most obvious, and it has a bigger effect on your score than anything else: pay your bills on time. It accounts for 35% of your score. Set-up automatic bill payments online if you’re the type to forget to make payments. Neither the credit reporting model nor banks care that you have a bank account filled with money if you can’t move some of that money once a month to pay your bills. Pay credit card bills once a week if you have to. It will make sure you’re never late, and it will also keep your debt-utilization-ratio low.
Credit scores can be confusing, but in the end, they are intuitive. Keep track of your debt. Don’t max out your debt. Don’t apply for too much debt. Pay your debt. Creditors update their reports to credit reporting agencies once a month, so making any of these improvements might only take a few weeks to improve your score.