As most people know, buying a house is a big commitment. In our last article we looked at the importance of figuring out just how much to spend on a house, and a simple, yet effective, way to save for the down payment. Today we will look at one of the most important factors in determining how much you will pay for your loan: the credit score. A review of the types of mortgages and interest rates will follow.
Credit Report
To many people their credit score is a mystery. They have no idea what affects it, or what their score even is. The most important thing to do, well before you even apply for a loan, is to run your free credit report, and make sure there are no errors on it. There are three credit reporting companies (Experian, Transunion, and Equifax), and all three reports can be accessed through the only government approved reporting site, annualcreditreport.com. Since there are three reporting companies, and a free report can be accessed once per year, the best way to look at the reports is to run one every four months (from a different reporting company each time). If for any reason something is on the report that should not be on there, file a dispute immediately. It can take a while to get it removed.
Credit Score
The credit reports will give you a feel for what debts you have open, and if any are late. They will not give you your credit score. To do so, head over to Credit Sesame to your free credit score. Keep in mind though that too many checks of your score will actually damage the score.
When lending money, institutions take a good look at your credit score. It will tell them how likely you are to make all your payments on time. A low credit score can often lead to paying higher interest rates on a loan. While .25% may not seem like much up front, it will add up to thousands of dollars over the lifetime of a loan.
Types of Loans
The 30-year fixed rate mortgage is the most commonly used mortgage vehicle. The borrower can expect to pay back 360 equal payments over the next 30 years. During the first several years the payments will mostly just be paying interest, but as the loan progresses, principle will account for more of each payment. Currently the rates for these mortgages are right around 4% for well qualified borrowers.
Like the 30-year fixed rate mortgage is the 15-year fixed rate mortgage. Essentially it is the same thing, except that the loan only has half as long to be paid back. This means the payments each month will be larger. Rates on these loans often run as much as 1% less than those on the 30-year loan.
The 5/1 ARM (Adjustable Rate Mortgage) is a specialized loan that not too many people will want to get locked into. After a 5 year period of a fixed interest rate, the loan will start to adjust on a yearly basis, sometimes up, sometimes down. Unless a person is looking to sell soon or refinance, the 5/1 ARM is not necessarily a good option.
Knowing how much house you want to afford, how to accumulate cash for a down payment, that your credit is in order, and what type of loan to get are all precursors to the pre-approval process. Now is the time to go into the lending institution of your choice (many people prefer smaller banks and credit unions, but often larger ones will offer more enticing rates), and go through the financial part of the buying process. This will get you an exact number of what you can actually borrow. Keep in mind you do not need to borrow this full amount. After knowing what you are able to get, then comes the fun part: house hunting.
