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Understanding the Importance of Good Credit When Buying a Home

For most people, purchasing a home is the largest single investment they will ever make. Determining the size of the home, its location and how much it will cost requires careful thought and planning prior to the purchase.

And obtaining a mortgage depends on many important factors, too, one of which is your credit history. You determine your credit reputation by how you manage your financial affairs. Therefore, if you have shown the ability to establish credit and repay in a satisfactory manner, you can usually obtain a mortgage more easily.

A Closer Look at Credit

When you apply for a mortgage, one of the things that lenders review is your payment record on things such as credit cards, car loans, rent and similar obligations. A good credit rating is acquired by making regular payments, on time and in the proper amount.

Lenders also review what are referred to as housing ratios and debt ratios.

Housing Ratio

The amount of money you can dedicate to housing expenses each month.

It is important to know how much of a mortgage payment you can practically afford. Most lenders agree that no more than 28% of your gross income each month is acceptable for mortgage related expenses, including principal, interest and taxes.

Thus, a couple with a combined gross monthly income of $2,000 a month could probably afford a maximum mortgage payment of about $560 (which includes taxes and insurance).

The remaining 72% of your income should be available to meet other monthly commitments, such as utility bills, food, clothing, medical care, transportation, entertainment and other household expenses.

Debt Ratio

The total of your mortgage payment and long term debt.

Long term debt typically includes credit cards, personal loans, student loans, car loans and similar debts. (Any debt that will be paid off in less than 10 months is not included.)

Lenders look at long term debt to see whether the borrower is overextended with debts other than a mortgage. Typically, the borrower’s mortgage payment coupled with long term debt should not exceed 36% of gross monthly income.

A couple with a $2,000 gross monthly income could typically afford up to $720 in mortgage payments and long term debt.

Beginning to Establish Good Credit

Building a credit history takes time and patience. If you’ve never had credit before, you can begin to establish credit by starting small. You may want to open a charge account at one or two local department stores to demonstrate that you can handle credit responsibly. You may even be able to take out a small loan at a financial institution to further add to your credit history.

Another helpful step in establishing credit is to open a checking or a savings account. While these do not give you credit, they are often viewed by lenders as evidence that you know how to manage money wisely.

Recording Your Progress

As you use your credit, your borrowing and repayment habits are recorded and become part of your file at the Credit Bureau.

Your credit file contains:

  • Your name, address and social security number
  • Details concerning your employment and income
  • Specifics about your personal history, including birth dates, dependents and previous addresses and employment
  • Information about your credit history, including how promptly you paid your debts and how much and how often you borrowed
  • Specifics regarding any instances in which you may have been turned down for credit
  • Information from public records, including bankruptcy and tax liens

The Credit Bureau will provide a written report to lenders about your ability to use credit responsibly.

We’re Here to Help

Even if your credit history is less than perfect, Dollar Bank is interested in helping you qualify for a mortgage. For more details, see Want to Buy a Home? Dollar Bank’s Homeownership Program Can Help. Our program is designed to help you repair (or establish) your credit history, and to assist you in designing a budget and savings plan that will help you get into a new home sooner. For more information on the Homeownership Program, please call 1-800-242-BANK and ask for Dollar Bank’s Community Development Department.

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