How your credit score affects your mortgage application

Alyssa Furtado
by Alyssa Furtado January 24, 2011 / No Comments

The number one factor determining your ability to obtain advertised mortgage rates, like the ones on RateHub.ca, is your credit score. Unless you are self-employed or applying for a mortgage on an investment property, it`s the sole determining factor.

So, if your credit score affects the mortgage rate you can achieve, what affects your credit score?

There are five different categories that go into a credit score: on-time record of payment, the number of inquiries or applications for credit, credit utilization, credit history, and credit `depth`.[1]

Dara Fahy, a mortgage broker in British Columbia, says `although it sounds like common sense, the most frequent reason that a person`s credit score is lower (or outright bad) is that they missed one or two payments.` A missed payment is a missed payment, regardless if it`s a $15 bill to Sears or a $500 payment to GMAC Car Leasing. Few borrowers realize the effect is the same.

You should also not be applying for credit you do not need. Department store credit cards are prime culprits driving excessive credit inquiries. Is the retail discount worth it? Well, the more times your credit is reviewed, the lower your score.

Your utilization of credit – your balance divided by available credit – is also a major factor. Contrary to popular belief, it`s not based on your balance at the end of the month but your balance outstanding at any given moment in time. Fahy recommends keeping the utilization under 80%, if you want to safeguard your score.

The last factors are long-term credit history and what Fahy calls the `depth` of your credit. In this he is referring to someone who has just one credit card versus someone who also has a line of credit and, say, a mortgage. Having a few accounts, of varying types, is good. However, too much credit means that you could, theoretically, get into trouble if you used all available credit facilities. In this case, too much credit can mean a lower credit score and difficulties getting mortgage approval.

Fahy reckons a minimum credit score of 600 will get you the advertised rates with a mortgage broker. Banks may be a different story, but brokers can leverage longstanding relationships with lenders. If you`re below 600, he warns you may be forced to go with a `B` lender.

Not only will you pay an interest rate premium, you may need to have at least a 20% deposit on your home. There`s also a fee for bad credit. Lenders can charge up to 1% of the mortgage value, and a broker may also demand 1% because the bank will often not compensate brokers for clients with credit issues.[2]

On the flip side, there are a couple misconceptions on what doesn`t affect the mortgage rate you can achieve as well, such as the size of your down payment. Fahy also addresses the fallacy that borrowers often think they can contract a better rate with a better credit score. In most cases, he says as long as you meet the lender`s minimum, you will get their best rate.

On the whole, abide by the basic borrowing principles discussed above, and you will get the best mortgage rate!

[1] Garry Marr, Financial Post. What`s affecting your credit score? http://www.montrealgazette.com/business/fp/money/What+affecting+your+credit+score/4126038/story.html

[2] Garry Marr, Financial Post. What`s affecting your credit score? http://www.montrealgazette.com/business/fp/money/What+affecting+your+credit+score/4126038/story.html