Homeownership has long been considered part of the American Dream. Even with homeownership rates falling in the U.S., many still look toward the goal of owning a home one day.
When you’re preparing to buy your first home, you’re likely focused on saving money and increasing your credit score. After all, a small credit score bump can make a huge difference in the rate you’ll pay on your mortgage. Considering this is probably the largest loan you’ll ever take out, that interest rate is important.
But many homebuyers think so much about boosting their credit score before they buy a home that they forget to think about what will happen to that score after they buy a home.
The fact is that there’s no one way to answer the question of what buying a home will do to your credit score. However, there are some basic rules of thumb to consider when looking at what happens to your score after buying a home.
Rule 1: Inquiries will Ding Your Score
Before you can get a mortgage, you’ll want to shop around with a few different lenders to be sure you’re getting the best possible deal. This is best practice, but it can result in a ding on your credit score if you aren’t careful.
Part of your credit score is determined by inquiries. This is made up of when you last shopped for credit, and how often you go credit shopping. The more often you apply for credit, the more you’ll lower your score. This is because mortgage lenders see you as risky if you’re continually asking for more credit.
A small ding on your score is inevitable when you’re applying for a mortgage loan. However, you can minimize the impact by applying for mortgages with multiple lenders within a short time period.
Different credit scoring models may handle this differently. But FICO, one of the most popular scoring options, lumps inquiries for certain types of credit into a single hard pull on your score.
FICO says that it handles this in two ways. For one, your current FICO score ignores inquiries made for accounts that usually involve rate-shopping — such as auto, homeowners, and student loans — in the prior 30 days. On top of that, older score models give you a 14-day shopping period, while newer models offer 45 days.
So, how much time do you actually have to shop for a mortgage? It depends on which credit score a lender pulls. Your best bet is to assume lenders will pull an older FICO model, so be sure to get all of your mortgage rate shopping done within 14 days.
Learn More About The FICO Score 9
With that said, applying for mortgages will still impact your score. How much your score drops will depend on a variety of factors, including your current score and the last time you applied for credit.
Rule 2: Adding a Mortgage to Your Credit Mix Can be a Good Thing
Part of FICO’s score model — about 10% of your overall score — is determined by your mix of credit. FICO wants to know if you have experience managing different types of debt. You don’t necessarily need to have every possible type of debt, but having a good variety of credit and installment loans is generally a good thing. If a mortgage is your first installment loan, this could help your credit.
The exact effect of adding a mortgage to your credit mix is unpredictable, but it could be enough to balance out the ding you’ll take from applying for the mortgage in the first place.
Related: Calculating Your Credit Score
Rule 3: On-Time Payments Could Boost Your Score Fairly Quickly
Your history of on-time payments is the biggest piece of the pie, making up about 35% of your overall score. Making mortgage payments on time every month will increase your credit score, the same as making timely payments on any other debt account.
On the flip side, it’s important to understand that late payments are one of the quickest way to wreck your credit score. One missed payment reported by your mortgage lender can quickly drop your score by 50 points or more. And, in fact, the higher your score is to begin with, the more negative impact a late payment will have.
If you’re considering a mortgage, be sure to look at how those minimum monthly payments will fit into your budget. Taking out too large a mortgage may force you to miss payments or make them late in the future, which can quickly tank your credit score.
Rule 4: Your Amounts Owed Will Increase
When we talk about the amounts owed portion of your credit score, we are usually referring to credit utilization, or your debt-to-credit ratio. This ratio has to do with the balances of your revolving loans, such as credit cards, compared with your available line of credit. Basically, you want to keep your debts low and your available credit high.
According to myFICO.com, the credit utilization aspect of your credit score looks at a variety of factors. This includes total amounts owed and how many accounts have balances. The current balance on an installment loan compared with the original balance will count towards your score. So, paying down installment loans will increase your score.
Taking out a mortgage will skyrocket your total amounts owed, of course, and this will affect your credit score. It’s hard to predict exactly how much this will impact your score. But paying down installment loans, like that brand new mortgage, will boost your score over time.
Eventually paying off your mortgage can increase your score, too, especially if you had a history of on-time payments. According to Experian, your mortgage will show up on your credit report with a status of Paid within a month or two of paying off your mortgage balance. If your mortgage loan doesn’t show late payments, it’ll stay on your credit report as a positive piece of your history for 10 years.
Try Out a Credit Score Simulator
It’s impossible to say exactly how buying a home will impact your particular credit score. This is because credit scoring formulas are fairly complicated, and so many factors are at play. However, a credit score simulator, like this one offered by Credit Karma, can give you some idea of how taking on a mortgage could affect your score. (Credit Karma is also a great place to get your free credit score before starting the process, so you can watch the effects firsthand.)
These simulators aren’t perfect. They can give you some idea of how different moves — including taking out your first mortgage — will affect your credit score, though.
How to Get Your Free Credit Score
Remember, your credit score will naturally fluctuate over time, even if you’re responsibly using credit. But as you continue to use credit responsibly, your score will, overall, trend upwards.