How Credit Score Affects Interest Rates
If you’re looking at your credit score and wondering how it impacts your interest rates on loans, you’re asking good questions. Continue reading to learn how credit scores are used, why they’re essential, and how they affect the interest rates you’re offered.
How are Credit Scores Used?
Stated by this credit repair company, when you apply for a loan, lending agencies need to determine how much of a risk they take on by offering you a loan. Your credit score is used to help them figure out how likely you are to pay back a loan.
Why does your credit score tell lending agencies how reliable you are? Credit scores are compiled from your overall credit history. The amount of debt you carry, whether you pay bills on time, and the types of credit borrowed are all used to come up with your credit score.
Scores are broken down into a range from 300 to 850 in the following increments:
- Excellent = 800-850
- Very Good = 740-799
- Good = 670-739
- Fair = 580-669
- Poor – 300-579
The higher your score, the more confident a lender can be that you’ll pay back the loan they offer. The lower your score, the more risk they take on.
Credit Scores and Interest Rates
The basic rule to follow is the higher your credit score, the better interest rate you’ll be offered. This is true for any type of loan and especially home loans.
When your credit score is high, a lender has high confidence that you’ll pay the loan back. As a result, they’ll offer you the best interest rates available. If, however, they aren’t as confident as to your ability to pay them back, you’ll be stuck with a lower interest rate. If your score is too low, you could have trouble finding a lender willing to offer you any loan at any interest rate at all.
While it may not seem like a significant difference, a credit score that is just a hundred points too low can mean an increase of two percentage points in your interest rates.
Take the following example of a $200,000, 30-year fixed-rate mortgage.
If your credit score ranges from 760-850, you’ll receive low-interest rates of around 4.354%. At this rate, your monthly payment will equal $996, for a total of $158,594 paid in interest over thirty-years.
If, however, your credit score is in the 620-639 range, you can expect an interest rate of around 5.943%. Your monthly payment will be $1,192, for a total of $229,041 paid in interest over thirty-years.
The difference between the two is a whopping $70,447!
You can see why it’s essential to make sure your credit score is as high as possible when applying for any long-range home loan.
Credit Score Makes a Difference
As you can see, your credit score makes a significant impact on the type of loan you can acquire. The better your score, the more willing agencies are going to be to offer you low-interest rate loans. If your score is too low for ideal interest rates, it’s better to wait until you can raise your score. Are you ready to apply for a loan?