While your credit score can improve over time due to a real estate investment, be prepared for an initial dip in points after completing the home purchase. Adding such a large debt to your credit report will likely result in a sizable decrease, especially if your debt-to-income ratio is already high. However, making continuous on-time payments will help you fix your credit score over time! But, depending on how you handle your finances, owning property can lead to an increase in credit! But adding a home loan to your name will inevitably affect your credit score. So does owning property increase credit?
Learn how a mortgage affects your credit history below.
A Breakdown of Homeownership vs. Consumer Credit
| Aspect of Homeownership | Impact on Credit | Description |
| Initial Credit Inquiry | Short-term Decrease | Applying for a mortgage involves a hard inquiry, which can temporarily lower your credit by a few points. |
| Age of Credit Accounts | Long-term Increase | A mortgage can significantly increase the average age of your credit accounts over time, positively affecting your credit score. |
| Credit Utilization Ratio | Neutral | Mortgages are installment loans and do not factor into your credit utilization ratio, which is primarily influenced by revolving credit like credit cards. |
| Payment History Diversity | Increase | Regular mortgage payments add diversity to your payment history, positively impacting your credit as payment history is a major component. |
| Debt Variety | Increase | A mortgage adds to the variety of debt types (installment debt), which can positively influence your credit mix, a factor in credit scoring. |
| Total Debt Amount | Variable Impact | Initially, taking on a mortgage increases your total debt, which can be a negative factor. However, as you pay down the mortgage, it can turn into a positive factor by showing successful management of large debts. |
| Loan-to-Value Ratio | Neutral to Positive | This ratio doesn’t directly affect your credit score, but a lower loan-to-value ratio indicates more equity in your home, which can be beneficial for financial stability and creditworthiness in the eyes of lenders. |
| Mortgage Refinancing | Short-term Decrease, Long-term Variable | Refinancing can lead to a short-term decrease due to credit inquiries and closing an old account. However, if it results in lower interest rates and better loan terms, it can have a positive long-term impact. |
| Property Value Appreciation | Indirect Benefit | While not directly affecting credit score, an increase in property value can enhance overall financial health and net worth, indirectly influencing creditworthiness. |
| Tax Benefits | Indirect Benefit | Certain tax deductions related to homeownership (like mortgage interest deduction) can provide financial relief, indirectly supporting better credit management by freeing up resources. |
Benefits of Buying Real Estate
According to the United States Census Bureau, home ownership appears to increase with age. Only 39% of Americans under the age of 35 own their home compared to the 79.1% of Americans over the age of 65 who own their home.2 Many financial experts agree that buying real estate is a great investment option. Homeowners receive a lot of benefits, such as stability and control over their living space. Keep reading to learn about the advantages of homeownership.
Gain Financial Stability
Renting is stressful because although your lease secures a monthly payment amount, your landlord may decide to raise the rent once your lease ends. And if rent gets too high, you are forced to move out and find an alternative living space. But a fixed-rate mortgage loan can provide financial stability! Fixed interest rates typically stay the same throughout the term of the loan, so you don’t have to worry about fluctuating rent prices.
Ability To Build Equity
Owning property means you gain an asset and have the ability to build equity. Equity is a financial tool you can use as leverage to get a home equity loan or home equity line of credit. Many homeowners use the equity in their homes to remodel or renovate the space. But in case of unexpected expenses, you can tap into your home equity to get financial relief.
Gain Control Over Your Space
There are a lot of rules to follow when renting a living space. Many landlords prohibit drastic cosmetic changes, pets, loud noise after a specific hour, and more. But owning your own home means you get complete control! You do not have to pay a monthly fee for having a dog. You can hang items on the walls and pull up the carpet. You are free to do almost anything as long as you adhere to the rules of the homeowner association (HOA) or mortgage lender.
Improve Your Credit Mix
Your credit mix counts for 10% of your total FICO score. Credit bureaus do not require borrowers to have installment and revolving credit accounts. However, managing a mix of credit accounts shows you are financially responsible. Adding a new type of loan to your credit reports can help boost your credit scores over time if you manage your money wisely.
How a Mortgage Loan Affects Credit Scores
If you’re interested in buying your first home, you may ask, “How does getting a mortgage affect your credit score?” While purchasing a home is an excellent investment, keep in mind that your credit will drastically change as a result because mortgage applications and payments will inevitably alter your credit score.
Many first-time homeowners are shocked to discover their credit has gone down significantly once they get a home loan and start making mortgage payments. After all, obtaining a valuable asset should help increase your credit. Purchasing a home can boost your credit over time, but be prepared to lose a few points immediately after completing the purchase.
Many homeowners end up losing 15 points on average. However, credit scores can decrease by as much as 40 points! A higher credit score may lessen the effect, but lower FICO scores can drop even further. But remember, this is a temporary setback! Most consumers return to their original FICO score approximately 161 days from the date of purchase.
Learn why your credit score may fall after buying a home below:
- Mortgage Loan Application – Owning a home is a great investment option. But know that your credit score will decrease as soon you get approval for a mortgage. Applying for a loan requires a hard credit inquiry, which can deduct a few points.
- Credit Utilization – A mortgage does not directly affect your credit utilization. However, a high credit utilization ratio combined with a large mortgage can result in a sizable credit score decrease.
- Monthly Payments – Your payment history is typically the most critical factor for credit score calculation. You can build a great credit score if you continuously make on-time payments. But late payments can further decrease a low credit rating.
How Late Mortgage Payments Can Negatively Affect Credit
Your mortgage loan payment history will directly affect your credit score. Why? The most important factor for credit scores is your payment history.
A reliable history of on-time payments will boost your credit rating over time. Although purchasing a home can result in a decreased score, you can work on regaining those lost points by ensuring you never miss payments. But suppose you accidentally make a late payment. How is your credit affected as a result?
Late loan payments can decrease your credit by a few points, which can be devastating if you already have a bad credit score. Five factors make up your total FICO score, and payment history is the most crucial aspect of the credit score algorithm. Payment history counts for 35% of your total score, which is a substantial amount. Since payment history is essential, a late payment can drastically affect a credit score.
How Much Is a Late Fee for a Mortgage Loan?
Making a late mortgage payment can decrease your credit score, but it can also deplete your wallet! A late payment will result in a late payment fee by the lender. The cost of a late fee is typically 3% to 6% of your monthly payment amount. Suppose your monthly mortgage payment is $1,600, and the late fee is 5%. In that case, you will end up paying $80! That’s a lot of money for a simple mistake. Ensure you make payments on time to avoid paying high penalty fees!
How Many Monthly Mortgage Payments Can I Miss?
If a borrower misses several payment due dates, the cost of a late fee can increase exponentially. But when a borrower fails to make multiple payments in a row, the mortgage lender can initiate the foreclosure process.
Suppose you have three months’ worth of consecutive missed payments. In that case, the financial institution can notify you of plans to start foreclosure if you cannot pay within 30 days. When a borrower goes 120 days without making a mortgage payment, the lender has the legal right to start the foreclosing process. If the financial institution succeeds in seizing the property, the borrower will have to move out.
Does a Foreclosure Appear on a Credit Report?
A foreclosure typically appears on a credit report one to two months after your mortgage lender starts the foreclosure process. A foreclosure entry will stay on a credit report for up to seven years from the date of the first missed payment that resulted in a foreclosure. Unfortunately, removing a foreclosure entry from your credit report is impossible unless the information is inaccurate.
What Is a Grace Period for a Mortgage Loan?
A grace period is a small time frame that allows you to miss a payment without penalty. Many mortgage lenders typically offer a 15-day grace period. Suppose you have a 15-day grace period. In that case, you can pay your mortgage up to fifteen days after your due date without negatively affecting your credit score or paying a late fee.
If you miss a loan payment, you will not typically receive another grace period for a while. Grace periods do not renew every month unless you are continuously making on-time payments.
How To Avoid Late Mortgage Payments
One of the best ways to improve your personal finance is to ensure you make payments on time. Late payments can negatively affect your credit history and result in late fees. Luckily, there are effective strategies to avoid late mortgage payments!
Below are a few methods to maintain a good payment history:
- Set Up Autopay – Many lenders offer borrowers the ability to set up automatic payments. Autopay deducts monthly payments straight from your checking account, so you don’t have to worry about missing payments! Just make sure you have sufficient money in your bank account before the money gets withdrawn.
- Use a Personal Loan – Personal loans, also called personal loans, are a great option when you need emergency funding quickly to catch up on mortgage payments. The approval requirements are typically flexible. Got bad credit? You can find bad credit loans online!
- Consolidate Debt – It’s challenging to make payments on time when you have several due dates to remember. Consolidating your debt can help you merge multiple debts into one account, so you only have to pay one bill each month! You can also keep more money in your pocket if you obtain a lower rate.
- Set Alerts or Reminders – Even if you think you will remember due dates for bills, it’s a good idea to set up alerts or reminders. Many financial institutions offer monthly payment reminders through email or text messages. Sign up and get notifications of upcoming due dates to avoid damage to your credit history.
Owning Property vs Credit: FAQ
Owning property and having vehicle loans both contribute to your credit mix, which is a factor in credit score calculations. While both can positively impact your credit score by demonstrating your ability to manage different types of credit, a mortgage is often seen as a more significant commitment and can have a more substantial long-term positive effect on your credit score compared to a vehicle loan.
Yes, purchasing property can be a significant step in credit building, especially for individuals with limited financial history. A mortgage adds a new type of credit to your profile, diversifying your credit mix and potentially improving your credit score over time as you make consistent, on-time payments.
Managing credit card debt effectively before purchasing property is often advisable in personal finance. Reducing high-interest debt can improve your debt-to-income ratio, a key factor that lenders consider when approving mortgages. A lower debt-to-income ratio can lead to better mortgage terms and rates.
The length of a mortgage term can impact your credit score differently than shorter-term loans. A longer-term mortgage provides a more extended period to establish a history of on-time payments, which can positively affect your credit score. However, it also means carrying a significant debt for a longer period, which can influence your credit utilization.
Refinancing a property can temporarily affect your credit score. The process involves a hard credit inquiry and potentially closing an old mortgage account and opening a new one, which can lower your score in the short term. However, if refinancing leads to more favorable personal loan terms and easier debt management, it can positively impact your credit score in the long run.
Owning multiple properties can have a complex impact on your credit. While it can positively contribute to your credit mix and demonstrate financial responsibility, it also increases your overall debt and can affect your debt-to-income ratio. Managing multiple mortgages requires careful personal finance planning to ensure it positively impacts your credit score.
While rental income itself does not directly affect your credit, the way you manage this income can. Using rental income to pay down mortgages or other debts promptly can positively impact your credit. Additionally, consistent rental income can improve your overall financial stability, indirectly benefiting your credit health.
Property taxes and homeowners insurance payments do not directly affect your credit unless you become delinquent on these payments and they are reported as debts to credit bureaus. Timely payment of these obligations is part of responsible property ownership and can indirectly support a healthy credit score by maintaining financial stability.
Owning property can positively influence your ability to obtain other types of credit. Lenders often view property ownership as a sign of financial responsibility and stability. As long as your credit utilization remains within acceptable limits and you maintain a good credit history, owning property can enhance your eligibility for a business or personal loan.
Selling your property doesn’t directly affect your credit unless it alters your debt-to-income ratio or credit mix significantly. If you use the proceeds to pay down other debts, it could positively impact your credit. However, if the sale results in taking on more debt or financial instability, it could negatively affect your score.
A Word From CreditNinja: Does Owning Property Increase Credit?
Homeownership is a dream for many Americans. In fact, as of the third quarter of 2023, 66% of Americans owned a home.2 A real estate property owner receives a valuable asset, tax benefits, financial predictability, and stability. While your mortgage affects your finances in several ways, CreditNinja urges you to not let the fear of a lower credit score stop you from investing in your future!
Looking for more tips on handling your finances, boosting your credit score, and more? Head on over to the CreditNinja dojo for tons of free resources!
References:
- Younger Householders Drove Rebound in U.S. Homeownership | U.S. Census Bureau
- Homeownership Rate in the United States (RHORUSQ156N) | FRED | St. Louis Fed
- Buying a house can send your credit score down. Here’s how long it takes to recover │ CNBC LLC
- How Long Does a Late Mortgage Payment Affect Your Credit? │ Experian
