Find out how lenders might weigh your credit card debt when you apply for a mortgage, and how credit card debt might change home loan costs.
Lora Shinn
Contributor
Published Oct 31, 2022 in:
Read time: 11 minutes
If you're planning to buy a home, you might wonder whether you'll qualify for a mortgage, especially if, like many American consumers, you have credit card debt.
The average U.S. consumer credit card balance is $5,270— almost 9% higher than a year ago, according to 2022 numbers from credit agency TransUnion. The highest credit card balances are found among consumers with "superprime" credit scores (720 or greater). Superprime balances hover between $7,500 and $10,000, according to the U.S. Consumer Financial Protection Bureau(PDF).
Could such a high credit card balance prevent you from getting a mortgage?
Find out how much credit card debt is acceptable when you're trying to get a home loan and discover ways to reduce credit card debt.
Does credit card debt count against getting a mortgage?
Yes, but how much it counts depends on the minimum monthly payment and the percentage of available credit you're using compared with your income, said Roger Mendoza, a senior manager on BECU's mortgage sales team. In fact, Mendoza said using a credit card or otherwise building credit helps boost your credit score. You'll need a credit score to get loan approval from mortgage lenders.
A lender checks your credit score during prequalification and orders reports from the three major credit bureaus: TransUnion, Experian, and Equifax. The lender looks at your credit card balances and any personal loans, auto loans and other debts you owe. In addition, lenders look for signs of stable income and that you have the required down payment.
But the percentage of available credit you're using (credit utilization) also contributes up to 30% of your credit score, Mendoza said. So be cautious about how you use credit cards.
What credit score will get a good mortgage rate?
You want the highest score possible to get the best loan terms. A credit score above 740 usually receives the best interest rates. Scores under 740 tend to result in higher costs and interest rates, Mendoza said. This might look like paying more in points, a higher interest rate, or both.
"If borrowers aren't happy with the rate or closing costs, it may be best to pay down credit cards, then reapply in 60 days." Mendoza said.
What's the minimum credit score for a mortgage?
The bank or credit union isn't solely responsible for determining the minimum credit score for a mortgage. The required minimum credit score depends, in part, on loan type. Most loans require a score of 620, but the Federal Housing Administration accepts a credit score of 580 (PDF).
Can I buy a house if my credit cards are maxed out?
A good credit history can help you get a mortgage, but maxed-out credit cards can hurt your chances, Mendoza said.
That's because lenders are weighing two big factors to determine if you can make your mortgage payment: Your credit utilization ratio and debt-to-income ratio.
Credit utilization: How much of your credit are you using?
The credit utilization ratio is how much of your credit limit you're using compared with your available credit. Think of your credit available as a car. Lenders get nervous about getting in if you've already filled most car seats with passengers you already owe money to.
It's not the specific balance on your credit card that matters for mortgage rates, but how much credit you're using. Paying off the balance every month earns you the best scores but keeping the credit utilization under 25% to 30% on each card is a good general rule, according to Mendoza.
Example:
If you have a card with a $10,000 credit limit, you'll want to ensure you don't owe more than $3,000 on that card. If your credit available is $10,000, and you owe $5,000, you are at 50% credit utilization.
This credit card debt affects your credit score and can make it drop. If your score drops too much, you could be denied a mortgage or pay a higher interest rate— which makes your mortgage payments much higher.
Debt-to-income ratio: How much debt is acceptable for a mortgage?
Carrying credit card debt can also cut into the money you have to pay your mortgage. Debt-to-income (DTI) ratio is your monthly debt payments to all creditors (including credit card payments and your potential mortgage payment), divided by your gross monthly income. Your gross monthly income is your pay before taxes or other deductions.
Lenders and loan products require different debt-to-income limits, but to get the best interest rate on a mortgage, make sure your debt-to-income ratio is under 45% before applying. Otherwise, lenders may wonder if you can afford a mortgage payment if you're also paying down a personal loan and three credit cards with high regular payments.
Example:
Let's say Molly has the following monthly debt payments, estimated mortgage payment and gross income:
-
Credit card 1: $250
-
Credit card 2: $225
-
Credit card 3: $200
-
Student loan: $400
-
Auto loan: $600
-
Estimated monthly mortgage payment: $2,800
Total debt payments:$4,475
Gross monthly income:$9,000
At 50%, the debt-to-income ratio is above the 45% limit.
Now imagine Molly pays off her credit cards before applying for a home loan:
- Student loan: $500
- Auto loan: $650
- Estimated monthly mortgage payment: $2,800
Total debt payments: $3,950
Gross monthly income: $9,000
At 44%, Molly's DTI would be within an acceptable range.
Payment History
Late payments can affect your credit score and potentially lead to higher required minimum debt payments, Mendoza said.
For example, if you're late on a $35-per-month payment, other companies might be concerned you'll default on your debt. The companies could increase your required repayment amount. This would also increase your DTI.
Should you refinance or consolidate debt before applying for a mortgage?
Yes, you might want to wait to apply for a mortgage until you've reduced your monthly debt payments. Here are a few ways you can do that:
- Increase your monthly payments.
- Refinance loans at a lower rate to lower your payments and lower your DTI.
- Consolidate credit card debts with a personal loan.
Take these steps at least six months before trying to get pre-qualified for a mortgage, Mendoza said. That should give enough time for credit scores, debt balances, credit utilization and DTI to improve.
Should you pay off a credit card before applying for a mortgage?
"It does make sense to pay credit cards down or pay them off, then apply for a mortgage when your score is as high as possible," Mendoza said. By decreasing your credit utilization ratio, you use less of your available credit.
If you have three credit cards, you might pay off two— and then keep your utilization as low as possible (under 25% to 30%) on the third card.
It's wise to avoid closing credit card accounts before you apply for a mortgage, even if you rarely use the card. This is because even unused credit cards increase your total credit limit.
Closing a credit card reduces the total credit amount accessible, often increasing your credit utilization ratio. If you perform a balance transfer onto one card and use up most of the credit available on the card, it can also reduce your score.
In essence, lose the balance— keep the card.
Getting a Mortgage With Credit Card Debt
If you're ready to buy a house and you have credit card debt, follow these steps to get the best rate and pay lower fees.
1. Check Your Credit Report
Check your credit reports and scores. You can request your credit report from the three major credit agencies at Annualcreditreport.com.
Your credit report tells the mortgage lender how much credit card debt you have on each card and the credit you can access. According to the CFPB, you'll want to review the report for any errors and overall payment history, including:
- Credit card accounts listed as active, although you closed the cards.
- Credit cards listed twice.
- Credit cards you don't recognize.
- Incorrect monthly payments or wrong missed or late debt payments.
- Incorrect credit card amounts owed.
- Credit card accounts placed in collections more than seven years ago.
You'll want to dispute these errors or possible cases of fraud with the card companies before applying for a mortgage. Don't forget to review any personal loans or outstanding balances.
Tip: The CFPB recommends getting your report now if you plan to buy a home in the next six months to a year. Checking your credit doesn't hurt your credit score.
2. Look for Credit Report Warning Signs
You could run into trouble with getting a mortgage if the following warning signs crop up:
- No credit history.
- Your total monthly debt never goes down.
- Repeatedly using balance transfers or loans to pay off ballooning balances.
- Skipped or late payments, or only paying the minimum required.
- Relying on cash advances for everyday expenses.
- Maxing out credit cards.
- Too many credit inquiries (applying for loans or more credit cards).
3. Pay Down Your Credit Card Debt
Those with bad credit or high DTI ratio will want to work on reducing debt before filling out the mortgage application. To aggressively tackle your credit card debt, you have a few options:
- Debt snowball: Pay the lowest credit card balance until the card is paid off. Then apply that payment to the next lowest balance card.
- Debt avalanche: Pay the highest rate card first: High-interest cards eat more of your payment and cost you more overall. After the card is paid off, apply that payment to the next highest-rate card.
- Debt cascade: The credit card company will reduce your required minimum as your balance decreases, but don't pay the new minimum. Instead, keep paying the same amount you've been paying to accelerate debt shrinkage.
- Debt knock-down: Keep making monthly payments on all cards until you've paid off every card.
4. Shop Around
Look at different mortgage offers with different lenders. Whether you're working with a mortgage broker or a bank or credit union's appointed representative, understand how to qualify for a lower interest rate.
5. Get Clear on Details
If you're applying with someone else, ask the lender how each borrower's credit might affect the application. Ensure you have the correct down payment and understand how mortgage repayments would affect your budget.
Approved? Don't Take Out New Debt
"Applying for more credit while waiting for the home loan to close is a frequent buyer mistake," Mendoza said. Before closing, most mortgage lenders pull your credit report to see if you've added new credit, your FICO score changed, or your credit utilization increased. If any aspect differs from your initial application, you could be hit with a larger interest rate or even rejection when you're ready to close the deal, depending on the difference.
Around the holiday season, stores offer savings in exchange for a retail credit card application or approval. Or you might think, "With such a great credit score, why not get a new car loan or credit card?"
Doing so could jeopardize your home loan. Mendoza said he's seen buyers get rejected for this reason.
Example:
You were already at 44% debt to income. You took out a car loan while waiting for your home loan to close. Your new DTI at 45% could lead to you losing the mortgage offer.
TIP: Don't mess with your credit until the deal is done and you've signed for your new home.
Final Takeaway: Work With Mortgage Lenders
Credit card debt can affect your ability to get a home mortgage loan on the best terms possible, straining your long-term financial health and making your goals harder to achieve. Discuss your options with your lender and find out how to improve your available credit, payment history and debt-to-income ratio. Ask your lender to explain how your specific debt situation affects your chance of loan approval. The right lender will be happy to work with you to give you the best chance of moving into a home, with an affordable monthly mortgage payment.
Lora Shinn
Contributor
Lora specializes in personal finance topics for BECU, and has also written for regional and national publications such as The Balance,U.S. News and World Report, LendingTree, GoodRx, CNN Money, Bankrate,The Seattle Times,Redbook and Assurance IQ.
