With all of the changes in the mortgage industry these days, it is more important than ever to understand how a credit score works – and how to keep your credit score as high, and the mortgage rate you get, as low as possible.
Many conventional lenders, those which use Fannie Mae guidelines, are now charging a premium for credit scores that are between 620 (the minimum they will lend on) and 720, part of which is passed on by Fannie Mae itself.
The lower the score, the higher the premium and the rate, with borrowers in the 720+ range getting the best rates.
FHA is also an option, and has premium for credit scores in that 620-720 range, but their upfront premium for all borrowers is 1.5% of the loan amount plus a monthly mortgage insurance premium, so this can be a pricey option as well. And they do have sub-620 score premiums.
Your credit score consists of several components, each which contributes to your score.
Credit is pulled from the three main credit bureaus (Trans Union, Experian, and Equifax) and lenders use the middle of the three scores.
The major factors are:
1) Payment history, which is about 35% of the total score.
This indicates how well a borrower is able to pay on time. Recent late payments of any kind, including utility bills, and mortgage late payments weigh the most heavily.
2) Level of indebtedness.
This is the balance of a credit line versus the total limit, and is about 10% of the score. Ideally the balance will be under 40% of the limit.
3) Length of credit history.
Demonstration of being able to manage credit long-term. This makes up about 10% of a credit score.