Credit Score Catch-22: Mortgage Shopping Can Raise Your Rate

mortgage closing costsIt's a Catch-22 if ever there was one. The very process of shopping around for a low interest rate on a mortgage can adversely impact your credit score and cost you your eligibility for the cheaper loan you're seeking.

Each time a lender does what is known as a "hard pull" on your credit report, their action actually shaves a few points off your score. A lower credit score means a higher mortgage rate. (You can check your own score 500 times a day and it won't matter. A hard pull is when a third party checks your score with the intent of extending you credit.)

With lenders tightening the noose, credit scores have become a matter of great concern for home buyers struggling to qualify for loans. Getting a favorable loan rate can mean saving hundreds of thousands of dollars over the course of the loan, so the idea that just in the course of loan-shopping you are doing yourself financial damage is logic-defying. But it's true.

The one break you can get is to do all your loan shopping within a two-week window. All checks done within this period will count as one -- and drop your credit score by just two to five points. But step outside that window, and each hard pull of your credit will cost you two to five points. Shop among eight lenders and you could see your scores drop by 40 points -- a drop that takes at least six months to recover from.

Tracy Becker, a national credit-score specialist located in New York's Hudson Valley and founder of the 20-year-old North Shore Advisory, offers these tips:

1. Don't open or close any credit accounts for three months prior to applying for a loan.

Yes, you read that right: Closing a credit account hurts just as much as opening a new one. Even the act of ending your car lease will cost you up to 60 points on your credit score.

Somewhere, some place, some analyst determined that one of the symptoms of a person about to go into default was that they began to close credit accounts. Well, duh. Isn't that what you're supposed to do when you find yourself overextended? Apparently the credit scorekeepers lump the financially solvent in with the defaulters' profile. So if your car lease is about to expire, extend it for three months while you loan shop, says Becker. And don't apply to increase your credit limits on any cards or take out any new ones.

2. Don't apply for a loan until you have a signed contract to buy a house and then do an intense day of loan-shopping.

The idea is to have all your hard pulls done within the 14-day window. One obvious problem is that not all home deals come to fruition. Estimates are that about 35 percent of open escrows fall apart. That means that those 35 percent of buyers will likely be back out there looking for another home and another home loan. And when they find it, their earlier efforts could work against them. The one glimmer of reasonableness here is that if you return within 90 days to the initial lender you approached, they will consider the credit score they pulled on that first go-round.

Becker had a client about a year ago who wanted to refinance his Long Island home. Not knowing the rules, he shopped for a loan about 30 times over a five-month period. He also went shopping for a car loan, got a credit card limit increase and was looking for a student loan for his daughter. The result: His credit score dropped 40 points and he couldn't get the mortgage loan he wanted, at a cost to him of an extra $600 a month.

Another of her clients had a credit score of 722 when he started looking to refinance his home. But he went out and bought a car, dropping his score by four points. Once under the credit threshold of 720, the refi application was denied. "Ultimately he paid down some balances and got back the extra points, but it was a lot of stress, a lot of paperwork and two-and-a-half months to get the loan he wanted," says Becker.

3. Don't let your balances exceed more than 10 percent of your available credit for at least three months, and pay your bills on time.

Getting a home loan these days is hard for everyone, and near impossible for those who have bad credit. Becker says to keep your balances below 10 percent of your available credit for at least three months prior to applying. That means if you have a credit card with a ceiling of $10,000, don't let the balance exceed $1,000. And since the credit reporting bureaus don't update their sites daily, you need to allow for a three-month delay.

FICO last month released information about how easily even a single unpaid bill can wreak havoc with your credit score. If you have a score of 780 and are 30 days late on your mortgage, your score will drop to 670 and it will take you three years to recover it. (Obviously, the F in FICO doesn't stand for Forgiveness.)

Credit consultant and head of New Start Financial Corp. Wayne Sanford -- a.k.a. "Wayne the Credit Guy" -- says that credit scores are just part of the equation.

He recently worked with a Texas family trying to buy a $330,000 home in Plano. The couple was ready to put $150,000 on the purchase and had scores of 690 and 740 between them. Yet the loan was flagged because a well-known national furniture store had marked their account as having a "consumer dispute." It was a computer error; the account had never been disputed and had in fact been paid in full on time and was closed. Nevertheless, it held up their loan and they almost lost their house deal.

Sanford advises running regular checks on your credit--which, by the way, won't impact your scores.

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John Ulzheimer

Let's see, where do I start with correcting the errors in this article....

1. The 2 week shopping window is about 10 years old. It has been 45 days since
2. Inquiries don't have an individual value as suggested. They're grouped and then the group is measured.

If you want to read about how inquiries really work read this Mint article...the guy who wrote this actually worked at FICO, which makes for a much better source than Wayne the Credit Guy. Seriously? Wayne the Credit Guy?

May 26 2011 at 8:12 AM Report abuse rate up rate down Reply

Sorry, this article is another alarmist article which hurt people more than it helps.

First, a credit pull does NOT automatically lower a credit score. In fact, MOST of the time, it does NOTHING to the credit score (repeatedly pulling the score WILL lower the score, however). People talk about this all of the time as if it's gospel because of dumb articles such as this one.

Second, as others have pointed out, you absolutely should NOT wait until you have a signed contract before speaking with a loan officer. To start with MOST people won't even accept and offer without a pre-qualification letter much less accept a signed contract. Also, you need to know whether you can, in fact, afford that house you're looking at. For people to sign a contract and THEN see if they have a shot at getting a loan is irresponsible and, honestly, insulting to the seller as they must (in most cases) de-list a property once a contract is accepted by both parties. It can cost them a buyer.

It's these kinds of articles which have done nothing but confuse already confused borrowers. How do I know about this? I sold mortgages for 10 years so I've run a few credit scores in my day and understand more about credit scores than most people writing these articles. They really need to get their facts straight before putting this kind of garbage out!

May 24 2011 at 5:05 PM Report abuse rate up rate down Reply

Come on! Don't apply for a loan until you have a purchase agreement in place? I'm a Realtor and I will never even show a house to a buyer, let alone let them put an offer on a house unless they are preapproved. If I am representing a seller, I would never allow my seller to agree to anything until a preapproval is in place.

May 24 2011 at 4:36 PM Report abuse rate up rate down Reply
Mary Whyte

I work in the mortgage industry focusing on both purchases and refinances. Someone would have to be an idiot to enter into a purchase contract without a pre-approval/qualification. How could anyone recommend such a foolish idea? You certainly did not mention the cost of loosing earnest money, either.

For everyone who read this article and works/worked in this industry, how many realtors have you ever had the "pleasure" to work with that will actually give a client the time of day with out a pre-approval??

May 24 2011 at 1:52 PM Report abuse rate up rate down Reply

Wow 40 point drop in credit score is quite the scare tactic. However in order to accomplish such a feat based upon the facts in your very own article someone would have to apply for 8 home loans over a period of 14 weeks equally spaced by exactly 14 days. If anyone is truly serious about shopping around for a mortgage I have a feeling the they will move a little faster than the snails pace offered in your example.

Readers please be wary of any stat given anywhere, they can be twisted to tell any truth.

May 24 2011 at 12:49 PM Report abuse +1 rate up rate down Reply
Lonnie Glessner

As a 13 year veteran of the mortgage industry I will tell you that having all your credit inquiries for a mortgage within a 2 week time period is NOT going to help you! This is a lie from Fico. I have seen dozens of peoples' credit reports who have done all their mortgage shopping within 14 days and it still affects their credit score. How do I know? Too many credit inquiries will show up as a Reason Code for a lower credit score and "one" inquiry should not create this Reason Code.

Second, you better apply for your mortgage before writing a contract on a home or you will NOT have a mutually signed contract. You also need to be pre-approved which requires a credit report and other paperwork from you.

Third, the problem with consumer disputes on credit reports is not with Fair Issac or the credit bureaus. It's our government causing this problem. How so? Fannie, Freddie, and now FHA all require us to "deal" with this dispute before your loan can close. This requires one of three things. First, the consumer un-disputes this account which can take 30 days or longer. Second, the consumer pays off in full this disputed account. Third, we have to do a manual underwrite on your loan which significantly raises the chances of your loan being declined IF and this is a BIG IF your lender will even underwrite your loan manually. A large majority of mortgage banks and lenders do NOT allow their underwriters to think and to manually underwrite a loan.

Fourth, shopping for a mortgage by price or rate only is often a recipe for disaster. Many times a year I have to "bail out" borrowers who started their mortgage shopping this way and their first mortgage lender would not perform satisfactorily for them. For example, i can guarantee you that very few mortgage professionals know that consumer disputed accounts on a credit report are a serious problem.

Think about it: if you want a Wal-Mart price on your mortgage, you will then get Wal-Mart''s level of service, which means no one to help you and you stand in line forever. Is that what you really want for your biggest purchase in your life?

May 24 2011 at 12:47 PM Report abuse rate up rate down Reply

Its amazing that a mojority of the people that commented on this article, say the same thing! Hmmmmm? When somethin is said one time its an acident, when its said numerous times, its a trend!!!

May 24 2011 at 11:13 AM Report abuse rate up rate down Reply

This credit score stuff is a bunch of bull **** the way they do things! Heres a couple puttin down just about half the money on a 330k house. Took em yrs to build up that score, and a " computer " error almost costed them from gettin the house! What a joke! How many times are these friggen credit scores not right anyway, cause of " computer " error! The other example, takes yrs to build a consistent credit score of 780, but late 30 days on a mortgage, and it drops 110 points in a month, then 3 yrs to get it back! Are you friggen kiddn me! Lets see the the persons last 15 yrs of payin on time means nothin huh?! Just the last 30 days means somethin? Dont tell me its not all about these bail out banks tryin to look for reasons to raise interest rates to make money! Whats the reason for talkin about how the interest rates are as low as they ever been, if nobody gets it! This credit rating system sucks! Its a big scam!

May 24 2011 at 11:08 AM Report abuse +1 rate up rate down Reply

Sounds anticompetitive: customers are encouraged _not_ to shop around. As with so many things, individuals have very little say-so. We are just puppets and the corporations pull our strings. It's laughable that so many people think we live in a democracy.

May 24 2011 at 10:46 AM Report abuse +1 rate up rate down Reply

More banking jackasses taking advantage of middle class american workers, BIG TIME.

May 24 2011 at 2:23 AM Report abuse +2 rate up rate down Reply