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Updated on Friday, January 18, 2019
Do you worry that your credit card debt will dash your hopes of buying your dream house? There’s no need to fret, because you can get a mortgage if you have credit card debt.Many borrowers apply for a mortgage while carrying credit card debt. In fact, 175 million Americans actively use credit cards, and almost half (44%) don’t pay their balance in full each month.
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However, excessive or poorly managed credit card debt can affect your ability to get a mortgage at a good rate. It all depends on three main factors: how much debt you carry on your cards, what percentage of your available credit you’re using and whether you’ve paid your credit card bills on time.
The role credit card debt plays in the home loan process
When you apply for a mortgage, loan officers look at your overall borrower profile, including your credit history, debt, income and the amount you plan to put toward a down payment. Your credit card debt factors into this big picture. Here are two ways your credit card debt can affect you when it comes to getting a mortgage:
1. Credit card debt adds to your monthly bills. Your credit card debt will be counted in your debt-to-income ratio, or DTI, said Tendayi Kapfidze, chief economist for LendingTree, which owns MagnifyMoney. Lenders calculate your DTI ratio by adding up all of the monthly debt payments you owe and dividing the total by your monthly income before taxes.If you make $5,000 a month, for example, and you owe $1,500 a month on credit card minimum payments and other debt, you have a DTI of 30%.
How much credit card debt is too much to get a mortgage? There’s no clear-cut answer because mortgage lenders lump your credit card debt in with other obligatory monthly payments, including car payments, rent or mortgage and student loans. Most mortgage lenders require your DTI be 43% or lower to qualify for a loan. If you want to crunch your numbers before you talk to lenders, you can use this online DTI calculator. When tallying up your credit card debt, use the monthly minimum payment you owe on each card.
At worst, a too-high DTI could lead to your being denied a mortgage. And if you do get approved, a high DTI could reduce the total amount you can borrow and keep you from getting the best interest rate. That might mean you have to buy in your second-choice neighborhood or swap your spacious dream home for a modest bungalow.
“The higher your monthly credit card payments, the less income you can commit to the mortgage and therefore the less you can borrow,” Kapfidze said.
2. Credit card debt affects your credit score. Credit card debt can have a big impact on your FICO score in several ways. First, carrying a balance on your cards affects your credit utilization ratio, which is the percentage of available credit you’re using. So, if you have a total of $10,000 in available credit and all of your card balances add up to $1,000, your utilization ratio is 10%. Amounts owed make up 30% of your FICO score. “If your utilization is high, it is affecting your credit score,” Kapfidze said.
The way you’ve manage your credit card debt has an even bigger impact on your credit, making up 35% of your FICO score. Failing to pay on time can really drag down your score. “Late payments would be the biggest red flag [to a lender],” Kapfidze said.
Want to check your credit score before you apply for a mortgage? Many sites and credit card issuers offer free credit reports, but it’s important to make sure you’re looking at your actual FICO score to get an accurate picture of your credit. The best place to check your score: Discover’s Free Credit Scorecard. There’s no charge to use the tool, and you don’t need to be a customer.
You should also know that some mortgage lenders are now using trended credit card data. This means they look at how you handle your accounts over a period of time. Paying your credit card bill in full each month may get you labeled as lower risk, while always making only the minimum payment can get you tagged as a higher-risk borrower.
Why you shouldn’t rack up card debt before you apply for a mortgage
Whether or not you currently have credit card debt, it’s a bad idea to charge up balances on your cards right before you try to get a home loan.
If your credit card debt lowers your credit score or raises your DTI enough, it could lead to your mortgage application getting turned down, Kapfidze said. Or, if you get approved, your credit card debt could increase the cost of your mortgage loan, Kapfidze explained. And a higher rate could cost you thousands or even tens of thousands of dollars extra over the life of the loan.
Also, if your credit card debt lowers your score enough, you might have to make a bigger down payment. For example, the Federal Housing Administration (FHA) requires borrowers to have a FICO score of 580 or higher to get an FHA loan with a 3.5% down payment. Borrowers with a lower score need to put at least 10% down.
Strategies to manage your credit debt
Do you owe credit card debt and plan to buy a home in the near future? Here are steps you can take to reduce the impact your debt will have on the mortgage process:
- Start making more than the minimum payment. If possible, trim your balances by paying more than the minimum that your credit card company says you owe. This way, you can lower your DTI, possibly boost your credit score, and become more attractive to lenders. “Take action to pay down your debt,” Kapfidze advised.
- Nix your interest to pay down debt faster. Another option is to get a 0% balance transfer credit card that eliminates the need to pay interest for an introductory period, usually 15 to 21 months. However, you should be aware that opening a new card close to the time you apply for a mortgage can ding your credit score slightly.
- Consider a consolidation loan. You might also want to consider consolidating your credit card debt by using a personal loan. But it’s important to know that this move can affect your borrower profile. “Any kind of new loan that you take out is going to have an impact on your credit score,” Kapfidze said. If you go this route, avoid spending so much on your cards that your balances balloon. “That’s a trap that many people can fall into if they don’t have a solid plan and the discipline to not run up their credit card debt again.”
Whether you racked up credit card debt due to an emergency car repair, a sudden illness or a beach vacation, your balances will not necessarily prevent you from buying a home. But it’s important to know where you stand and to take any necessary action to boost your borrower profile before you start hunting for a house.
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