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Your Credit

Why is your credit important?
Credit is a financial tool that enables you to buy things now without paying for them all at once. Your ability to use credit responsibly and repay creditors on time has a lot to do with how much access to credit you will have in the future. Building a solid credit history gives you more buying power when you need it, and that can be especially valuable when you are buying a home.

How credit affects your loan options
When you apply for a mortgage, the lender will evaluate your credit history to see how you have managed credit in the past, and then use that information to determine how likely you are to keep up with payments in the future. By predicting how well you will manage your debt, the mortgage company can measure the risk involved with lending you money.
Everything else being equal, someone who has consistently made payments on time is a lower credit risk than someone who has not. Because lenders usually offset risk with higher financing charges, having a better credit history generally means getting more favorable loan terms. And because some loan options are riskier than others, good credit may give you more flexibility in structuring your mortgage.
Buying a home when you've had credit challenges
Many people believe that they can't buy a home unless they have great credit. While it's certainly helpful, a flawless credit history is not a requirement for buying a home. In fact, homeownership can be a tool for getting past credit difficulties.

Buying a home gives you an opportunity to improve your financial situation by:
  • Establishing a strong payment record. Paying your mortgage on time every month goes a long way toward showing creditors that you can manage debt effectively.
  • Building wealth for your future. Each time you make a mortgage payment, not only do you improve your credit, you also build home equity that you can leverage to reach your goals
Understanding your credit report
Before lending you money, creditors — including mortgage lenders — need to determine how likely you are to pay it back. One way to do that is by examining your past use of credit, which is recorded on your credit report.

What goes on your credit report
Although each credit reporting agency may report information differently, all credit reports contain the following:
  • Identifying information. This includes your name, address, date of birth, and social security number.
  • Credit accounts. Your report lists information on each of your accounts, including the account type, date it was opened, credit limit, balance, and payment history.
  • Inquiries. When a lender requests your credit report, either to process an application you submitted or to qualify you for pre-approved offers, the inquiry is recorded. When you request your own report, however, the inquiry is not listed.
  • Public records. These include information on bankruptcies, foreclosures, and any other liens.
What your credit score means
Credit scoring translates the information on your credit report into a numeric score, which makes it easier for a lender to evaluate your credit. Scores generally range from 300 to 850, with a higher score indicating a greater likelihood that you will make payments on time.
What affects your score
Credit scores are developed by comparing credit reports from millions of consumers over time, and identifying factors that tend to predict how well people manage credit later on. Those factors include:
  • Payment history. Whether you've made payments on time in the past is used to predict how likely you are to pay in the future.
  • Outstanding balances. Being over-extended on your credit accounts tends to lower your score.
  • Length of your credit history. Credit scores reflect payment patterns over time, so having a longer history gives lenders a more reliable picture of your credit.
  • Types of credit in use. Having a diverse mix of account types usually has a positive affect on your score.
  • New credit. A series of requests for new credit may suggest to lenders that you are looking to take on new debt. Because people tend to shop around for mortgages and other loans, all credit applications within a 14-day period are counted as a single request.
Credit scores are considered unbiased because they are based only on your past credit history. Your score cannot be based on race, religion, national origin, age, sex, marital status, or income.
Improving Your Credit
Whether you need to rebuild a damaged credit history or simply maintain your solid rating, here are some things you can do to achieve your goal.
Check your credit report for errors
Your first step is to make sure that your credit report is accurate. Balancing out a negative entry with consistent payments takes time and effort — getting rid of an incorrect entry is much easier, and can make a big difference in your credit score. Here's how to check for and correct errors:
  • Order a copy of your credit report from one or more of the three major credit bureaus.
  • Review each account on your report to make sure it actually belongs to you, or did at one time.
  • If an account that you no longer have is listed as open, contact the creditor and ask them to report it as closed.
  • If an entry is inaccurate, ask the credit bureau to investigate. They should give you a response within 30 days.
Change the way you think about credit
Having credit cards and loans that you pay regularly is a good thing in the eyes of lenders. At the same time, having credit available often brings the temptation to buy things you can't really afford. The key to good credit management is in finding a comfortable middle ground.
To guard against overspending, try to think of credit as a tool that gives you more financial freedom — not more stuff.
Consolidate your debt
If you are overextended with credit and living month-to-month, debt consolidation might make your payments more manageable. By paying off multiple credit accounts using a refinance or home equity loan, you can take advantage of three valuable benefits:
  • Simplicity. Instead of a steady stream of bills in the mail — each with a different payment amount and due-date — you receive a single statement each month.
  • Lower payments. Because they are secured by your home, home loans generally carry lower rates than most other types of credit. That means you'll have lower monthly payments and a chance to put money into savings.
  • Tax savings.* Unlike credit cards and installment loans, interest on home loans is usually tax-deductible. And because monthly payments at the beginning of the loan term are mostly interest, you could enjoy substantial tax savings early on.
* Ask your tax advisor about the deductibility of mortgage interest.