I remember it like it was yesterday. I was sitting in the office of my mortgage broker, reviewing my loan application for the purchase of my first house. I didn’t know much about the process of buying a house and because I had just graduated college two months earlier, I also had very limited credit history.
When my lender revealed that my credit score was barely above the cut off for making the loan, he said it was partly because I had limited history, but it was also low because I had recently opened a new credit card. This is when he told me not to apply for any new credit before my mortgage closed.
Why Do You Suddenly Need Credit?
Any time you apply for new credit, your credit score is dinged by a few points. But this isn’t the only reason why you shouldn’t apply for new credit while you are in the process of obtaining a new mortgage.
Loan officer, Jessica Vaughn, with Farm Credit of Western Kansas, an agricultural lender in my hometown of Colby, Kansas, told me that any time one of her customers has applied for any type of new credit alongside a new mortgage from her it “throws up a red flag.”
“The first thing I’m thinking is why do they need a new mortgage and a new line of credit for another purchase?” Vaughn says. “The dishonesty of not telling me about their other potential debts and pulls on their credit score is also a red flag. I’m a lot more willing to work with someone if they are honest with me about their intentions from the beginning.”
Your Interest Rate Could be Higher
Vaughn went on to explain that as part of the process of qualifying a customer for a mortgage with a Farm Credit lender, a projected cash flow for the customer is produced and his or her total debt payments are carefully analyzed against historical and projected income.
“If they all of a sudden have a new credit line open in addition to their mortgage, it’s harder for us to analyze and it could put them over-the-top of where we are comfortable with their debt payments being,” Vaughn said.
With most mortgage lenders there are different tiers for determining the interest rate on your loan. The tier you fall into depends on several factors that determine your overall level of risk. One of those factors is your credit score, and another factor is your debt-to-income ratio. Both of these factors are negatively impacted anytime you take on a new line of credit, like a credit card, or an installment loan, like a car loan or anything else with set monthly payments.
You Could Lose Your Mortgage
Applying for new credit while seeking a mortgage will not only negatively impact your credit score and mortgage interest rate, but it could even cost you the mortgage altogether.
“You can absolutely be rejected for on mortgage application because you applied for new credit elsewhere,” Vaughn said.
Just because your credit score was above the cut off at the time you applied for the mortgage doesn’t mean you are in the clear. There is a rule that requires lenders to re-check your credit score just prior to your mortgage closing. If your score has dropped to below the cut off, your mortgage can be rejected.
In my case, because I was so close to the credit score cut off at the time of my application, I most likely would have been rejected for my mortgage application if I’d opened any other new credit cards or installment loans prior to my loan closing.
What to Do if You are Shopping Around
When I was applying for my mortgage in 2012, my lender told me to especially avoid taking out a new loan for a car, or even shopping for a car until my mortgage was closed.
The reason he warned me to avoid shopping for a new car is because car dealerships often run your credit report even if you are just shopping around for the best rate on a new or used car.
“We don’t like it when a customer’s CB report shows more than 3 new hits within a 12 month period.”
“Sometimes this is because customers are shopping around for the best rate on a car loan, or even on a mortgage,” Vaughn explains. “If you are shopping around for a good rate, don’t sign an application or that lender has the authority to pull your CB score, which hurts your credit. Instead, be honest and tell lenders up front that you are shopping for the best rate.”
Luckily, I heeded my lender’s warning and avoiding opening up any new credit cards or loans before my mortgage was closed a few months later. Otherwise I might still be cutting checks to a landlord instead of building equity in my home.
When This May Not Be an Issue
While it’s never recommended that you start applying for credit directly before or during the mortgage process, it isn’t always a death sentence on good rates or getting approved. Someone with many years of credit history and an 800+ credit score, probably wouldn’t be doubted too much by a lender if he or she opened up a credit card during the mortgage process. There is a long history of responsible behavior and the credit card probably would be seen as a red flag, but maybe just a chance to take advantage of a promotional offer.
Kayla Sloan of Shoeaholicnomore.com