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Your credit rating is the single most important determinant of your mortgage rates. The levels of debt you have can also affect the rates you receive on a home loan. Improving these factors even slightly is worth the trouble, as lowering your mortgage interest rate by even 1% can result in thousands of dollars of savings. Read on for three simple steps you can take to get lower mortgage rates.
Step 1: Raise Your Credit Score
The first step to improving your mortgage rates is improving your credit rating. In order to do so, you must first understand how your credit score works. When you apply for a home loan, your lender will typically review your credit scores from all three major credit bureaus (Experian, Equifax, and TransUnion) and then use the middle score to calculate your rates. To get good rates on a mortgage loan, you’ll need a credit score higher than 650. For the best rates, your credit score should be 750 or higher. Order your credit score and credit report at least three months before you apply for your mortgage loan so you can correct any problems ahead of time. If your credit rating is less than 650, try these tips for rapid improvement:
- Avoid closing old accounts or opening new accounts
- Pay down your credit card balances so your debt is less than 35% of the limit
- Pay your bills on time every month
- Dispute errors on your credit report
Step 2: Pay Down Your Debt
Your debt-to-income ratio, or DTI ratio, is another factor your lender will consider when determining your mortgage rates and the size of the loan you can afford. To calculate your DTI, the lender divides your monthly income before taxes by the amount you spend on debt every month. These debts will include student loans, credit cards, car loans, etc. Your DTI should be below 30% if you want to get the lowest rates on your mortgage. Borrowers with a debt-to-income ratio of more than 30% should try to pay down or pay off the balances on smaller loans, such as credit cards with minimal balances or personal loans. Alternatively, you can also reduce your DTI by raising your income. A quick way to do this is to add a co-signer on your mortgage loan, such as a spouse or parent.
Step 3: Reduce Your Loan-to-Value (LTV) Ratio
The size of the down payment you make will also have a big impact on your mortgage rates. Lenders calculate your down payment by figuring out your loan-to-value, or LTV, ratio. To calculate your LTV ratio, take the size of the mortgage you want to borrow and divide it by the value of the home (usually the asking price). For instance, if you need a loan for $85,000 to buy a home priced at $100,000, your LTV ratio is 85%. Mortgage lenders give the best rates to borrowers who have LTV ratios of 80% or less. You can improve your LTV by increasing your down payment or buying a cheaper house.
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