To get the best rate possible, the first thing you’ll want to do is make sure your credit is ready.
Most lenders will use your Fair Issac or FICO credit score when they price your loan. Typically the higher your FICO credit score, the lower your interest rate will be.
If you don’t know your FICO credit score﹣and they range from a low of 300 to a high of 850﹣find out. Some credit card companies and banks will provide customers with their FICO credit score for free, or you can order your score at FICO.com.
FICO has a tool that lets you calculate the different rates you might expect for certain credit score ranges. (Note, these are expressed as annual percentage rate or APR estimates, which is the interest rate plus other fees and costs of the loan spread over 30 years.)
Raise Your Credit Score, if Needed
If your FICO credit score is lower than you’d like, you can take steps to improve it. But you should start this process long before contacting mortgage lenders, because it can take several months (or years) to see a change in your credit score depending on where you start and your end goal.
There are a number of apps and free services out there that can help you set up a budget and improve your spending habits, or you can contact a HUD-approved housing counseling agency. Most will offer online, telephone, and in-person options. These agencies should provide information about their services and fee structure for free. If a service doesn’t do that, consider going elsewhere.
According to the Consumer Financial Protection Bureau, warning signs for credit repair scams include companies that ask for payment before providing services (which is illegal) or guarantee a specific (and large) increase in your credit score. Don’t let these companies fool you.
Check Your Credit Report for Errors
Your FICO credit score is based on information from your credit report. You’d be surprised at how often errors occur﹣and those errors could make it harder for you to qualify or secure that lower interest rate.
By law, you can request a free copy of your credit report annually from each of the three reporting agencies﹣Equifax, TransUnion, and Experian. Information on disputing an entry can be found on the agencies’ websites.
You should include copies of any documentation, such as acknowledgement letters from creditors, about entries you are disputing.
Once your credit is in order, you’re ready to meet with lenders. Notice we used the plural lenders. You should always comparison shop to make sure you find a lender you are comfortable working with and compare several loan estimates, noting the interest rates and also the fees (which will be reflected in the APR).
In addition to your local bank or credit union, or lenders referred by real estate professionals or friends, you can find local lenders on Zillow to provide loan estimates. Or you can check rates on Zillow anonymously to compare offers from multiple lenders, all in one place.
Put 20% (or More) Down
Lenders will ask how much you plan to put down. Obviously, the more you put down the less you’ll have to finance.
Some buyers will put 20% down to alleviate the need to purchase private mortgage insurance or PMI. Putting 20% down gives you more might also help you be a competitive buyer and stand out to the seller in a competitive-bid situation. And it may help you qualify for a lower interest rate, which can help you pay thousands less in interest over the life of your loan.
But saving that much for a down payment can be difficult for some buyers. If your resources for a down payment are stretched, consider home buyer assistance programs from local housing agencies. There’s a free tool at Down Payment Resource to help you search for programs in your area.
Paying mortgage points (also known as discount points) can help you lower the interest rate on your loan. Points are fees paid directly to the lender at the close of your loan. One point costs 1 percent of your mortgage amount (or $1,000 for every $100,000). Essentially, this allows you to pay some interest upfront in exchange for a lower interest rate, and the cost may be tax-deductible.
As a general rule of thumb, you should consider paying points if you plan to own the home for a long time.
Avoid Large Credit Purchases
Your lender has used your monthly income and debt to determine your debt-to-income ratio or DTI. This number generally should not exceed 43% of your pre-tax income.
If you finance a major purchase like appliances, carpeting, or furniture before your loan closes, you add to your monthly debt, which could raise your DTI and could delay your loan close, or result in the loan being turned down in severe scenarios.
How Much Could You Save?
So, in the end, does getting a lower interest rate on your mortgage loan really matter? We think the numbers in the accompanying chart speak for themselves.