How Much Credit History is Needed to Buy a House? - Credit Strong (2024)

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How Far Back Do Mortgage Lenders Look at Credit History?

Mortgage companies and other lending institutions may review any data contained within your credit reports. Data from the past 24 months is the most important information that mortgage lenders look at. However, they could look at derogatory information, like foreclosures or bankruptcies, that happened years before.

Experian, Equifax, and Transunion are the three credit bureaus that receive, retain, and report creditor information. Mortgage lenders look at the information that they provide for your credit reports.

Mortgage lenders look at credit report data such as your payment history, mix of accounts, and debt-to-income ratio. They also look for any negative items in your credit history that could automatically disqualify you from getting a mortgage loan.

If you are building your credit from scratch, then two years of the right credit behaviors and credit history should be enough to help you qualify for a home loan.

Equifax established specific provisions that determine how long entries remain on consumer credit reports, which are broadly categorized as either being “positive” or “negative.”

Negative entries generally remain on credit reports for seven years. For example, late payments, vehicle repossessions, and home foreclosures remain for seven years from the original date of delinquency regardless of whether the balance is ultimately paid.

When lenders are unsuccessful in their collection efforts, they typically “charge off” the debt, which is often reassigned to a third-party collection agency. Here, the negative entry remains on your report for seven years from the date of the original missed payment.

If you pay or reach an agreement to amicably resolve the debt with a collection agency before the seven-year period passes, the negative entry will still remain on the credit report; however, it will have a less adverse impact on your overall score.

If you have a home foreclosure on your credit report within the past two years, it will probably take you more than two years of good credit behavior before you can qualify for a mortgage again.

Chapter 7 bankruptcies remain on credit reports for 10 years and Chapter 13 bankruptcies for only seven years after the filing date.

Active credit accounts in good standing are classified in the “positive” category and remain on your credit report indefinitely as long as they remain active with no change in status. Closed credit accounts that were satisfactorily paid remain on your credit report for 10 years.

When a consumer applies for credit, lenders typically make a formal request or “hard inquiry” for copies of their credit report. The ‘hard inquiry’ remains on the report for up to two years and may have a slightly negative impact on your credit score.

How Many Years Does It Take to Establish a Good Credit History?

If you’re just starting out, you can establish a credit history good enough to qualify for a mortgage within two years. This requires that you have a mix of different account types and make all of your payments on time, in addition to a few other things.

Having good credit requires building a history of responsibly managing accounts that are being reported to the credit bureaus. Data suggests the process of establishing a good credit score is easier when the consumer has no credit history compared to bad credit history.

Two of the most common models used for credit scoring are FICO^® and VantageScore^® they both typically use a score range from 300 to 850. Eligibility for a FICO score requires having an active credit account for six months; a VantageScore requires as little as only one month.

Those starting a new credit account with no prior payment history will often see a credit score generated in as little as one month for Vantage and six months for FICO. Currently federal rules require a FICO score to obtain a conventional mortgage loan.

You should be aware that even one 30-day late payment can hurt your ability to qualify for a mortgage!

According to FICO, the adverse impact that a negative entry has on a consumer’s credit score varies based on its severity. For example, an account reported as 30 days past due will likely have a smaller impact compared to 90-day delinquency or a bankruptcy.

A recent FICO research study assessed the effect of different mortgage-related negative marks on the three primary credit bureau reports of consumers with different existing credit scores.

Adverse Impact on FICO Score

What Mortgage Lenders Look at in Your Credit Report

As mentioned earlier, mortgage lenders usually look at several factors in your credit report:

• How much debt you currently have (to calculate your debt-to-income ratio).
• Your mix of credit accounts. How many installment loans do you have? Do you have any credit cards?
• Your length of credit history.
• Any late payments. They look to see how many 30-day, 60-day, and 90-day late payments you’ve had on any of your accounts.
• Other derogatory information, such as foreclosures, bankruptcies and collection accounts.
• Recent credit applications – known as “hard inquiries”.

Lenders also look directly at the information in your credit reports. But remember that your credit scores are calculated by looking at the information in your credit reports, too.

These factors affect your FICO credit score calculations as follows:

• Current payment history (35%): Does your credit history reflect a pattern of financial responsibility by making timely payments?
• The overall amount of debt (30%): Does the consumer have a manageable amount of total debt? One particularly important factor is the utilization rate, which is the percentage of credit in use relative to the overall (maximum) credit available. Maintaining usage rates of less than 30% are generally considered favorable.
• The length of credit history (15%): Does the consumer have a lengthy track record of responsible credit usage?
• Recent (new) credit account activity (10%): Lenders often perceive consumers that abruptly apply for or open multiple accounts as a potentially bad credit risk.
• The types of credit (a.k.a. mix) (10%): Lenders generally prefer that consumers reliably manage more than one category of credit accounts such as revolving accounts including credit cards and installment loans including auto loans.

Many lenders deviate slightly from the aforementioned general model (FICO 8) specifically when assessing the creditworthiness of mortgage applicants, but FICO 8 is a good baseline to use for understanding your credit profile. The FICO scores that mortgage lenders often look at include FICO 2 for Experian, FICO 5 for Equifax, and FICO 4 for evaluating Transunion reports.

Mortgage lenders typically look at one credit score from each credit bureau before making a lending decision. Many look at the middle score as the score to make their lending decision based on.

How Credit Strong Can Help With Credit History and Increasing Your Credit Score

Credit Strong is part of Austin Capital Bank, an independent FDIC insured community bank with a five-star rating. Credit Strong offers consumers specialized credit builder loans. These loans allow borrowers an opportunity for establishing a credit history and improving their score.

The borrowed funds are promptly deposited into a savings account to secure the loan as you make a single, fixed monthly payment. Throughout the term of the loan, all three credit reporting agencies receive reports of the payments made with these accounts that build credit.

Updated each month, the Credit Strong account dashboard allows you access for tracking progress and monitoring your latest credit score.

After paying off the loan balance, the lock on the savings account is removed allowing access to the funds. Borrowers will have built a payment history, which represents as much as 35% of the basis for the calculation of FICO scores.

Check out Credit Strong credit builder loan plans and pricing here.

What’s the Minimum Credit Score for a Mortgage?

No universal minimum credit score requirement exists for mortgage loan eligibility. The credit score requirements vary based on the category of the loan, the underwriting policies of the individual lender, and other factors.

The most common categories of loan types include conventional mortgage loans, FHA loans, VA loans, USDA loans, and “jumbo” loans. Each type of loan has varying requirements, which can include a minimum credit score.

• Conventional loans: Unlike an FHA loan, a “conventional” loan implies that the financing has no backing or support from an agency of government. Conventional loans are insured by Fanne Mae (FNMA) and Freddie Mac (FHLMC). Applicants with bad credit might not qualify for these conforming loans, which generally require a 620 or higher credit score.
• Federal Housing Administration (FHA) loans: Among the government-backed mortgage options, FHA mortgage loans incentive lenders to approve financing for borrowers with credit scores as low as 500, making FHA loans a popular option.
• U.S. Department of Veterans Affairs (VA) loans: Current and former military members may benefit from VA loans. The VA has no written (formal) credit score requirements, but generally, a minimum 640 score is needed for approval.
• U.S. Department of Agriculture (USDA) loans: The USDA loan program promotes homeownership in rural areas. Similar to VA loans, the USDA has no formal minimum score; however, unconditional approvals typically require a 640 or higher score.
• Jumbo loans: A “jumbo” mortgage loan typically involves a home in premium-priced metropolitan areas, which exceeds $548,250 currently. Most lenders require a minimum score of at least 700 for approval—or 720+ for preferred lower interest rates.

What’s the Best Credit Score for Getting a Mortgage?

When striving to improve your credit score for securing more favorable mortgage rates, we must define what constitutes a good score. TransUnion classifies a “good” credit score as ranging from 661 to 720.

The Transunion Credit Monitoring program now assigns letter grades to credit scores as follows:

A: 787 to 850
B: 720 to 780
C: 658 to 719
D: Less than 657

Many prospective borrowers have a tendency to focus exclusively on their credit score and neglect the many other factors that influence lender decisions. Some of the calculations are measured relative to your income, thus striving to increase it is encouraged.

For example, your debt-to-income (DTI) ratio calculates the percentage of your income that is allocated each month to recurring debt. The following example explains the calculation:

DTI= Total recurring monthly debt / monthly gross income. For example if you have monthly debt payments of $1,000 and monthly income of $4,000 your DTI would be 25%.

$1,000 / $4,000 = 25%

Lenders generally prefer DTIs of less than 36%, with a maximum of 28% of the overall debt allocated specifically for a mortgage. Borrowers seeking to reduce their DTI must either pay down some credit card balances or other existing debt or increase their overall income.

Borrowers with excessive DTI ratios are largely viewed as a risk for default. When too much income is allocated for debt, the consumer has little to no “cushion” if they face a loss of employment or another calamity.

Why is a High Credit Score Important?

In the eyes of a lender, prospective borrowers with low credit scores represent a greater risk, which encourages them to impose more stringent and costly terms and home loan requirements.

Borrowers with poor credit typically pay higher rates of interest, which will translate to a significant amount of money over the many years of a mortgage’s term. A lender might also require that these borrowers make a sizable down payment as part of the qualification process.

Another example of how credit scores might influence the costs associated with mortgage loans involves the rates of private mortgage insurance (PMI). Lenders impose PMI requirements in addition to mortgage payments when conventional borrowers lack a 20% down payment.

The costs of PMI often range from .25% to 1.5% of the home loan. Although other factors play a role, the rates imposed for PMI generally increase when borrowers have bad credit.

A report from the National Association of Insurance Commissioners explains how many states allow insurers to consider an applicant’s credit rating when setting premium prices for property-based insurance such as homeowners and automobile policies.

Some individuals often confuse mortgage interest rates with annual percentage rates (APRs). An APR accounts for the mortgage interest rate but also includes various associated costs such as fees, points, closing costs, and other expenses.

Low Credit Scores Cost Too Much

As you can see in the table below, your monthly mortgage payment varies quite a bit depending on your credit score. With a low credit score, you will have a higher interest rate.

Over the life of a 30-year mortgage loan, a lower credit score could cost you tens of thousands in extra interest payments!

Monthly Payments by Credit Score

Why Do Credit Scores Matter for Home Loans?

When financial institutions receive a mortgage loan application, they will evaluate the prospective borrower based on indicators that gauge risk.

Applicants with lower credit scores represent a greater risk and may struggle with obtaining loan approval or access to preferred rates.

The long-term financial ramifications of entering a mortgage with a fair credit score are inherently significant because homes are large purchases that are further exacerbated by the higher interest rates over a term of typically 30 years.

Keeping this in mind, consumers are encouraged to pursue a mortgage carefully. Using credit builder loans or other powerful improvement strategies will allow you greater mortgage affordability. This enables you to simultaneously achieve other goals such as retirement savings.

If you’re preparing to buy your first home, consider a multi-faceted plan that reduces debt, accumulates a down payment, and improves your credit score.

Although a modest 5 to 10% improvement in any single aspect may generate limited results, the cumulative effect of improving each can yield substantial savings.