It seems like a total given that paying off your mortgage early would mean good things for your financial health. However, what makes sense in terms of dollars doesn't always translate to an increase in your credit score. Paying off a mortgage is a perfect example. The reality is that paying off your mortgage early would only nominally help your credit score and may in fact weaken your score.
Composition of a Credit Score
Your overall credit profile is made up of five factors. In order of most to least important, your credit score accounts for your payment history, your level of outstanding debt, the average age of your accounts, the number of inquiries on your credit report and your mix of credit accounts. Having a mortgage impacts your payment history, your level of debt and your credit mix -- that is, your ability to juggle accounts with large monthly payments.
Paying Off a Mortgage Early
By paying off a mortgage early, you help yourself in two of these three credit score areas. Paying early usually means you've been consistently paying on time, which is the most important factor in any credit score. In addition, paying off all that debt significantly brings down your total amount of outstanding debt. The only problem is that by paying early, you take a mortgage - perhaps the most difficult debt to pay - out of your credit mix.
How Your Score Can Change
If you pay off your mortgage early, you may see an increase to your credit score, but the bump isn't as big as you might think. First, you no longer benefit as much from the credit mix component of your score, which counts for 10 percent of your overall score. In addition, if your overall level of debt reaches zero as a result of your mortgage being paid off, your score will almost certainly decline. While it's true that having no debt is good for you, the FICO credit scoring model sees zero debt as a potential risk factor, even if you've just demonstrated your ability to manage debt.
To Pay It Off or Not to Pay It Off?
Credit scores have become a huge part of modern life, causing some people to obsess over them at the expense of common sense. In the case of paying off a mortgage early, you have to think practically. The point of having a good credit score is to save money. Even if your score goes down, you'll save thousands of dollars in interest payments. Don't worry about the hit to your credit score; just be happy your mortgage is paid off and you have thousands in extra money to use.
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