Why It's So Important to Pay Off Your Credit Cards Before Applying for a Mortgage
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Buying a home? It's best to apply for a mortgage once you're free of credit card debt.
Your goal in getting a mortgage should be to not only qualify for a home loan but also snag the lowest interest rate possible. But if you have too much credit card debt at the time of your mortgage application, you may be setting yourself up for disaster. Here's why it's essential to shed as much credit card debt as possible before buying a home.
1. Your credit score could suffer
Too much credit card debt could hurt your credit score. And the lower your score, the less likely you'll be to get a mortgage (or an affordable one).
One factor that goes into calculating your credit score is your credit utilization ratio, which measures how much of your total available revolving credit you're using at once. A ratio above 30% will hurt your score. So if your total spending limit across your credit cards is $10,000 and you have a $4,000 outstanding balance, that credit utilization ratio of 40% would cause your score to drop. That's why it's important to get rid of as much of your balance as possible before applying for a home loan.
2. Your debt-to-income ratio could get too high
Another factor that mortgage lenders look at during the application process is your debt-to-income ratio, which measures your monthly debt relative to your income. Too high a debt-to-income ratio sends the message that you're overextended and possibly shouldn't be trusted to take on more debt. But if you pay off some or all of your credit cards, that ratio should shrink.
3. You could have trouble keeping up with your bills
The more credit card debt you have, the more difficult it is to keep up with your expenses once you add a mortgage into the mix. Imagine you're currently spending $400 a month on credit card payments and you sign a mortgage that raises your housing costs by $400 a month. If you were to knock out your credit card balance before finalizing that loan, you'd have an easier time absorbing that higher housing expense.
How to pay off debt efficiently
If you're eager to rid yourself of credit card debt before buying a home, the first thing to do is assess your debt and see where it's coming from. If you owe money on three separate cards, figure out which one charges the most interest and tackle that balance first. Another option is to consolidate your debt, which could help lower the interest rates you'll pay. This can be done via a balance transfer or even a personal loan.
Of course, you'll also need to get on a tight budget and cut back on spending to carve out money to pay off your debt. And you may want to consider getting a side job temporarily to make decent progress on the debt payoff front.
Paying off credit card debt isn't always easy. But it'll work to your benefit to have as little credit card debt as possible by the time you apply for a mortgage.
Our Research Expert
Maurie Backman writes about current events affecting small businesses for The Ascent and The Motley Fool.
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