credit & debt

Improve Your Credit Score Before Applying for a Loan

To qualify for a lower loan rate, follow this timeline to boost your score.

We’re hoping to buy our first house later this year, and we’re wondering what we should be doing over the next few months to improve our credit before we apply for a mortgage. We have pretty good credit scores, but we would like to try to make them even better.

It’s a great idea to start working on improving your credit score several months before you apply for a big loan, whether you are buying a house, refinancing or buying a car. Boosting your score could help you qualify for a lower loan rate and save you thousands of dollars over the life of the loan. Of course, paying your bills on time has a big impact on your credit score, so be particularly careful not to miss any deadlines before you apply for the mortgage. Here are other strategies (and a timeline for taking them) that aren’t as obvious but can also make a big difference.

Six Months Before You Apply

Don’t open or even apply for any credit cards. Lenders look at “credit inquiries,” which show that other lenders have asked for your credit record and indicate that you might be about to take out a lot of new debt, making it tough to pay your bills on time. Inquiries made within the past several months could mean you've taken on new debt that hasn't yet been reported, says Maxine Sweet, of the credit bureau Experian.

Don’t close any credit cards. Almost 30% of your FICO score, the one most lenders rely on, is based on the amounts you owe, including how much of your available credit you've used (called your "credit utilization ratio"). If you close a card that had a high credit limit but keep your balance the same on your other cards, it will look as if you’re maxing out your available credit, which can hurt your score. If you want to close credit card accounts you don’t use -- to avoid paying an annual fee, for example -- try to do it more than six months before you apply for a major loan. For more information, see Close a Credit-Card Account to Avoid Fees?

Check your credit reports for errors. You can get free copies of your credit reports from each of the three credit bureaus every 12 months at www.annualcreditreport.com. If you’ve already received your free reports for the year, you can order your credit reports directly from the credit bureaus at Experian, TransUnion and Equifax. It’s important to check your report from all three bureaus because mortgage lenders usually pull credit scores based on each of these reports and base your rate on the median score. Errors on just one report can affect your interest rate even if the other two reports are accurate. Although disputes are generally resolved within 30 to 60 days, the process can take longer if, for instance, you have to mail documents back and forth. “It’s always better to have a little extra time in case you run into a particularly difficult scenario,” says John Ulzheimer, president of consumer education at SmartCredit.com.

Two Months Before You Apply

Start paying down your card balances, with the goal of getting to a zero balance. “Paying down your cards is by far the most actionable way to improve your scores quickly,” says Ulzheimer. Starting two months in advance is key, he says, because the low balances don’t always appear on your credit report right away. “It takes about that long for the credit reporting to truly update the accounts to show zero-dollar balances,” he says.

If you have to add new charges, keep them to 10% or less of your available credit, whether or not you pay off your credit card bill in full every month. “A low ratio is worth almost as much as paying your bills on time,” says Ulzheimer. The lower the utilization ratio, the better. “The people who have the highest FICO scores (760+) have average utilization of 7%,” he says.

Once you do start shopping for a mortgage, “rate shop for a given loan within a focused period of time,” says Anthony Sprauve, of FICO. Those credit inquiries can affect your score if it looks to prospective lenders as if you’re about to take on a lot of debt. The FICO score recognizes that you may be shopping around for rates before you take out a mortgage, which could cause several inquiries into your credit report but result in only one loan. As a result, all inquiries for a mortgage made within a limited time period only count as one inquiry. “Thirty days is a safe bet,” says Sprauve.

And don’t stop following these strategies just because you apply for a mortgage -- keep them up until you close on the house. “You’re not out of the woods until you have the keys in your hand,” says Ulzheimer. “Lenders can pull a new set of credit reports and scores as late as the day of closing.”

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