Credit Scores and Home Buying

David and Lia are like many of the 86.3 percent of college graduates who had to borrow money to pay for a four-year undergraduate education. Now they worry about how that might affect their chances for buying a home.

The average cumulative debt of America's loan-taking undergraduates is $24,651, according to FinAid. It's a whopping amount (and that doesn't even include graduate school loans). So it's no surprise that David and Lia, who are still paying off sizable college loans, are worried about how this debt might compromise their chances of homeownership.

David, who's self-employed and renting in an apartment complex, is further worried by a ding that he found on his credit report, even though he has very little credit card debt.

Working in favor of David's financial footing, however, is that he maintains a low balance on his credit cards. Not skipping payments on the credit cards, nor his student loans, is what's going to help David the most. Paying debt on time keeps your credit score in good standing. If you've had any missed payments, this can negatively affect your credit score.

David and Lia asked the What Works Now experts about how college debt might play into the home loan process. Todd Dal Porto, Home Loans Enterprise Sales Executive at Bank of America, and personal finance expert Lynnette Khalfani-Cox say potential homeowners need time to achieve a low-debt-to-income ratio, and a good payment history.

The ideal loan applicant is a "triple threat" -- meaning he or she has an excellent credit rating, a large down payment, and a low debt-to-income ratio -- with steady and significant income. The self-employed, like David, might undergo further scrutiny from a lender, who wants to be sure he can make his payments. He'll need to show job security. So the more time he gives himself working in the same field, while decreasing his college debt, the better his chances will be for a loan approval.

Although you have to give yourself some time to decrease your debt if it's sizable, that doesn't mean you have to wipe out all debt before you purchase. Regardless of debt, lenders will put your application on the top of the pile, if you pay your bills on time. That's because your payment history has a big impact on your credit report.

When dealing with mortgage loans, lenders will look at each of your three credit scores (Equifax, TransUnion and Experian) and base their approval on your middle score, says Dal Porto. "Credit scores are important to lenders simply because they tell them if you're responsible and pay your bills on time."

If you do have a ding on your credit report, the goal is simply to improve your credit score. Scores range between 300 and 900, with the majority of folks landing somewhere between 650 and 800. The higher you can lift your score, the better your chances of obtaining a loan in the amount you desire.

Essential How-To Guides on AOL Real Estate
Potential homebuyers can quickly improve their scores simply by paying bills on time and paying down their debt, says Dal Porto. Funding a college education is a great use of debt and shows lenders that you're on your way to improving your income. In the meantime, just keep track of your personal spending, says Khalfani-Cox. If you keep your spending under control, you'll keep your credit scores high in the long term.

So over all, the good news is that college won't necessarily deter David and Lia from owning a home -- or any of the students attending our nation's 4,300-plus colleges and universities every year. The key for them simply is knowing the steps to take to achieve their goal.

Interested in learning more about how your credit history might affect your mortgage eligibility? Here are some AOL Real Estate guides that might help:


    Want to learn more about home buying and home finance? If so, you won't want to miss
    our online discussion with industry experts,

    "What Works Now: Smart Moves When Buying a Home,"
    created by AOL Real Estate in participation with Bank of America Home Loans.
    Watch it now on AOL Real Estate.
    Read Full Story

    Find a home

    Powered by Zillow