Have you forgotten to pay a bill, or maxed out your credit card limit?

Wondering how it can affect your home loan application?

When applying for a home loan your credit score can be an important factor in determining if you can successfully get finance approval, and directly affect how high your interest rate and repayment fees will be.

What is your credit score?

Your credit score is a numeric value that helps a lender determine if you are a “safe” or “risky” person to lend credit to. The category that your credit score falls in (Excellent, Very Good/Great, Good, Average/Fair, Below Average/Weak) will impact how much you will be able to borrow, as well as the interest or “repayment” rate that is offered to you.

Your credit score may vary depending on where you sourced your score from, as different institutions will have different scoring models…

In Australia, there are three governing credit reporting bodies (CRBs):

1. Equifax
2. Experian
3. D&B / illion

Australians can obtain one free credit report from each of these CRBs per year. So, if you haven’t received your credit report in a while, it may be a good idea to do so now before you apply for a home loan!

The table below shows the different score ranges the three CRBs use.

The top #4 negative influences on your credit score…

1. Missed or late payment history – this is a biggie, not only does this include your current or past credit card repayments, but also your utility (power, water and gas) and phone & internet bills. If you’ve got a string of failed or late repayments, it’s a bad sign to lenders, and your credit score will suffer.
2. Maxing out your credit limit – Lenders will take into account your current “credit utilisation ratio”. This is the amount of credit you’ve used, compared to the maximum amount of credit you have access to (e.g. if you have a $5,000 credit card, and you’ve used $1,000 of it, your credit utilisation ratio will be 1,000 divided by 5,000 x 100 = 20%). They use this percentage to assess how much “wriggle room” you have if an adverse event should occur (e.g. you lose your job) to gauge if you could still keep up with repayments. If you’re using more than 50% of your credit utilisation ratio, this will start to impact your credit score, and banks will assume you’ve already got more debt than you can keep up with.
3. One too many balance transfers – if you’ve transferred your existing credit card debt over to a new card (usually it’s to enjoy an interest free promo period), failed to repay the amount in time, and transferred the balance again – this is a definite red flag to a lender. It indicates that for whatever reason, you’re unable to pay your credit balance on time.
4. Applying for multiple credit cards or loans in a short period of time – each time you apply for a new credit card or loan, an official “enquiry” is made for your credit score. These enquiries stay on your record for five years, and list the name of the credit provider, the date of your application, and the credit amount that was requested. If a lender can see a large number of enquiries on your record within a short amount of time, they’re going to assume that you’re either desperate for credit (high risk), or you’re already approved for too much credit, and you’ll be less able to make repayments on any new credit that they could provide you with.

My credit score isn’t good – can I still get a home loan?

The good news is – it really all depends on where you are applying. There is no definitive score that will prevent you from obtaining a home loan. However, most institutions will factor credit into their decision process.

Having a low credit score may cause the interest rate and down-payment fee on your loan to be higher. There are a number of lenders who provide ‘Bad Credit Home Loans’ to those who find it difficult to obtain one from financial institutions or banks.

It may be in your best interest to speak with a mortgage broker – they can help you compare different home loan lenders and obtain the best rates with your credit score.

Improving your credit score

Having a bad credit score is not the end of the world. There are several things you can do to help improve your score:

1. Pay off all your outstanding loans and debts. If you have any existing loans or debts, pay them off first!
2. Obtain your free credit report regularly. Use it to check for incorrect listings and get them removed.
3. Pay your bills on time. Overdue payments can affect your credit score for up to 5 years!
4. Find a better way to manage your money. There are tools like Money Simple which are designed to help you see where all of your money is coming and going.
5. Don’t apply for too much credit. Applying for too much credit in a short period of time may indicate that you are under financial stress and can lower your credit score.