Your mortgage credit grade will play a major role in determining what rate you get on your mortgage, or whether you get a mortgage at all. That's why it's important that you examine your credit report, and look at your financial situation, before you even apply for a mortgage.
Your mortgage credit grade is composed of several factors.
The first factor is your credit history. A lender will look at your mortgage credit, your consumer credit, and will also go through public records.
Your mortgage credit is the most important factor in your mortgage credit grade. Lenders will look at your mortgage payment history to see how conscientious you've been in making payments on your mortgages in the past (assuming, of course, that you've had mortgages in the past).
Consumer credit consists of credit cards, car loans, student loans, and so on. Payments that have been late by 30 days or more will show up on your credit report.
Lenders will also look at public records to determine your mortgage credit grade. They'll be looking for bankruptcies, collections, property foreclosures, or judgements against you.
The more problems you have with mortgage credit, consumer credit, bankruptcies and so on, the higher your interest and fees will be. If your previous problems were serious, you may be denied a loan.
In determining your mortgage credit grade, lenders will also look at your ability to pay. This is called your "debt ratio." This is calculated by adding any existing monthly payments you currently have to the monthly payment for the mortgage you're seeking, and comparing those numbers to your total monthly income. Let's say you make $5000 a month, you have a $250 car payment each month, and your mortgage payment will be $1000. Your debt ratio would be the $250 car payment plus the $1000 mortage payment, divided by your $5000 monthly income. $1250/$5000=25%. The lower your debt ratio, the higher your credit grade will be.
Another component of your mortgage credit grade is your credit score. Also known as FICO scores, credit scores are a way for the lender to evaluate risk.
The three most reputable credit bureaus---Experian, Trans Union, and Equifax--use different methods to calculate credit scores. However, the scores from each bureau reflect the same level of credit worthiness.
Credit scores range from 375 to 900. Most people have credit scores in the 620 to 650 area. Anything above 650 is regarded as very good.
While not related to your mortgage credit grade, the amount of money you're seeking to borrow compared to the value of the home is a factor in what interest rate you'll pay. This is a formula called the Loan to Value ratio. It's a measure of the amount of money you're seeking to borrow divided by the appraised value of the home. If you're looking to borrow $150,000 to buy a home valued at $300,000, the Loan to Value ratio is 50%.
The higher your Loan to Value ratio, the more seriously lenders will look at the other aspects of your mortgage credit grade.
Knowing the various aspects of your mortgage credit grade in advance can help you get a better deal on a mortgage. For example, there may be an error in your credit report that's adversely affecting your credit score. Or perhaps you can get rid of some of your consumer debt before applying for a mortgage, thus lowering your debt ratio. Or you might want to consider buying a home that's less expensive.
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