3 Credit Secrets That Will Help You Qualify for the House of Your Dreams
From avoiding common credit mistakes to the art of "piggybacking," how to make property ownership a reality.
For thousands of Americans nationwide, a common New Year's resolution included buying a home. For some, this goal may easily be within reach, for others it might seem more of a dream. But is it?
Regardless of whether we will be in a buyers or seller's market, interest rates are expected to increase in the near future. Armed with this information, you can decide whether it's better to pay a little over asking price now or pay a higher interest rate over time (keeping in mind that you can always refinance in the future to get a lower rate if that option works best).
1. Avoid credit mistakes
Common missteps made when consumers are about to purchase a home are paying off accounts in full, closing or using credit cards unwisely and opening new accounts.
It might seem logical to think that paying off an account in full is always a good thing; the truth is that sometimes it is, and sometimes it isn't. When you pay off an installment account in full it closes, which harms your credit score because the age of that account is no longer reflected on your credit profile. Also keep in mind that a closed account is worth less than an open one. So, when buying a home, the secret is to pay a vast majority of the installment loan yet leave it open. In most cases a 90/10 ratio is good (provided that it's within your budget), meaning that 90% of the account is paid off, with 10% of the balance open. This reduces your debt-to-income ratio and will increase your credit score.
Since we now know closing accounts is a bad idea, we want to do the same with credit cards; pay them down as low as you can but leave them open (you can use the same 90/10 ratio for these as well). Also, if you have bills or monthly memberships connected to your credit cards, it may be a good idea to disconnect them until you finish escrow. That way there won't be a balance on cards that you may have forgotten about. (If that balance reports, then it will hurt your debt-to-income ratio.)
2. Use other/additional credit
If you live with your spouse or family member (i.e., brother, sister, son, cousin) over the age of 18, you can use their credit profile under a tenancy in common (TIC) legal provision, in which each tenant owns a certain percentage of the property. The advantage of this is that if all tenants are employed, each of their incomes (as well as credit scores) can be included in a loan application. The disadvantage is that the lender will normally go with the lowest credit profile of all the tenants, but there is a workaround to this, which leads to our next and last credit secret.
Adding an authorized user (a relative, friend or family member) of a credit card, aka "piggybacking," can be a reliable way of boosting a credit score. For example, when a mother adds her daughter to a card, that credit history (including the age of the card and credit limit) will show up on the daughter's credit report. The secret to this is to get a card with sufficient age as well as one with a high credit limit. It's additionally vital that there are no missed payments associated with the card, and that it is paid down to under 10% of the total utilization (the lower the better).
An authorized user account will normally show up on a credit profile five to 10 days after the statement date associated with the credit card, so it's then that the boost on a credit report will be seen.
In the illustration used above, the consumers with the high credit scores can each add the third consumer with the low credit score to their credit cards, and that will ultimately raise the score. (The more cards you do this with, the better!) This will certainly improve the chances of a favorable outcome in pursuing a home purchase.
Keep in mind that once a mortgage reports to your credit report, it takes your credit to a higher credit class, because the algorithm of having a great profile includes having a mortgage. Furthermore, lenders can now see that you have a stable residence, and are aware that the vast majority of property owners gain escrow in their homes, which makes the consumer more attractive to lenders — a win-win situation.
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