Buying a home is a big step, and most homeowners will attest that the process is far from easy. If you're thinking of purchasing your first place, you've probably heard warnings that doing so can hurt your credit. But is this true? And if so, how can you minimize the damage? Let's dig in and find out.
Just got a mortgage? Expect a small ding
If you're concerned that getting a mortgage will hurt your credit score, your fear is (somewhat) justified: Applying for a home loan will do some short-term harm to your credit score.
When you apply for the mortgage, your lender will have to pull your credit to decide whether you're a good candidate. This type of pull is known as a "hard" credit inquiry, and it will cause your score to drop by a few points.
One way to protect against a serious dent in your score is to shop for your mortgage within a 30-day window. If you do so, the credit bureaus will count your several loan applications and subsequent credit pulls as only one hard inquiry. Again, you'll still see a small drop in your score, but the loss is minimized by using this strategy.
However, be aware that completing the homebuying process might require more than one credit pull by the same lender. Getting set up with a mortgage can take time, and your initial credit check might have expired by the time you're ready to close on the loan.
In this case, your bank will have to do a second credit check, which might fall outside that 30-day timeframe you tried to stay within. That means you could lose some additional points from your score because of the multiple hard inquires.
Don't do more damage after you've moved in
The mortgage application process is long and difficult, and sometimes unfolds much more slowly than you intended. There's not much you can do to speed it along, and there's no avoiding at least one hard credit inquiry. But there are other credit mistakes new homeowners commonly make -- all of which are preventable. For example:
- Applying for several retail credit cards: If you buy a home that needs some work, you might need to make multiple trips to the home-improvement store. Also, you'll probably want some new furniture and appliances for your place. If you're opening a bunch of store credit cards to save money on these purchases, you could be hurting your credit. Like applying for a mortgage, opening a credit card means a hard inquiry to your credit report. Don't go nuts with applying for every store card out there, or you could lose serious points.
- Getting busy and forgetting to pay a bill: Moving means a lot of distractions. You have many tasks to manage, and you're out of your regular routine. This means it's easy to forget to pay a bill or two. Unfortunately, this is one of the worst things you can do for your credit score. To avoid it, the Nerds recommend setting up recurring alerts on your phone to remind you to pay your bills.
- Charging too much to existing cards: Moving is expensive, and many of us put these costs on plastic. Be careful to keep your spending in check, because using more than 30% of your available credit on any of your cards could hurt your score.
Tips for using your home loan to help your finances
Let's face it: Buying a home means there's a lot of opportunity to mess up your credit. But done right, getting a home should help your score -- and your overall financial profile. Here are the Nerds' top tips for using your home purchase to your advantage:
- Make on-time payments: Since 35% of your credit score comes from your history with paying your bills by their due dates, making on-time mortgage payments will go far in helping your score.
- Hold on to equity: As you build equity in your home, do your best to hold on to it. Doing so will give you more options in the future if you run into a serious financial emergency. Instead of having to run up a credit card to pay for a huge expense, which could hurt your credit and cost you big bucks, you'll have the opportunity to use a home equity loan instead.
- Consider keeping the installment loan on your report: Paying off your mortgage early is a controversial topic, but there's no doubt that keeping an installment loan on your credit report is helpful to your credit score. Consider holding on to your mortgage if you're worried about what your credit profile will look like without it.
The bottom line: In the short run, purchasing a home will cause your credit score to lose a few points. But that isn't a reason to shy away from home ownership. If you follow these tips from the Nerds, your credit score and overall finances will probably benefit from your home purchase in the long run.