What Is a Good Credit Score for a Home Loan?

So you've saved for the down payment on that new home and you're ready to buy. Now comes the test: Can you get approval for a mortgage? To be approved, you need a credit history that gives you a good credit score for a home loan. This article explains what a credit score is, how it is used and what major lenders and the Federal Housing Administration (FHA) consider a good credit score for a home loan. At the end are tips for how to protect and improve your credit score.

Identification

There are several credit scoring systems, but the one that is most widely used and of concern to home buyers is the FICO score. It was developed by Fair, Isaacs, & Co. This is the credit score reported by the three major credit reporting companies (Equifax, TransUnion and Experian) and the one used by Fannie Mae, Freddie Mac, and (starting in 2008) the FHA. The score can range from a low of 300 to a perfect score of 850.

Significance

Your credit score is calculated based on your credit history. It represents the level of risk lenders have when they lend you money. The higher your score the less risk you represent. For most borrowing, you want a credit score of 620 or higher. You can get credit from many lenders with a lower score, but you will pay higher interest rates. For major purchases, lenders are more cautious and aren't likely to finance a home for someone with a really low credit score at any rate of interest.

Function

The two best known home mortgage companies are Fannie Mae and Freddie Mac. They normally require a FICO credit score of 620 for a home loan. Both prefer a score of 640 or higher and will charge a higher interest rate if they make a home loan to someone with a lower score. This is pretty much the industry standard and any score below 620 is considered "sub prime." It's possible to get a home loan with a lower credit score, but you will need a very large down payment or a loan guarantee from the FHA or Veterans Administration.

Considerations

The FHA exists to help people get home loans even if they have limited funds or problems with their credit history. Since the 1960s the FHA has specialized in insuring home mortgages for low- and middle-income borrowers and as of 2008, insured 4.8 million single-family home mortgages. The FHA adopted the use of the FICO score in 2008 but requires only a 580 to approve home mortgage insurance, provided previous credit problems such as late payments, collections, foreclosure or bankruptcy have been resolved and the applicant has worked to rebuild her credit over a period of time. The FHA requires a 3 percent down payment (plus closing costs).

Prevention/Solution

There are specific steps you can take to get a good credit score for a home loan. The most important is to pay all bills on time, and never more than 30 days late. If circumstances are such you can't, contact your lender and make arrangements. Often lenders will not report late payments if you honor such agreements. Reduce your debt, especially by paying off credit card balances. Call the credit card issuer and ask for your credit limit to be lowered. This helps because it means you have less credit available for immediate use. Don't apply for or close credit accounts frequently. This will count against you, especially if you are turned down for credit. Avoid "credit killers." These include tax liens, having a debt go to a collection agency or to court, foreclosure and bankruptcy.