Mortgage Rate Shopping: How Multiple Applications Affect Your Credit Score
For most people, buying a house involves applying for a mortgage loan.
Some applicants pick any random bank for a mortgage.
But since rates, fees, and terms can vary from lender-to-lender, getting the best deal involves rate shopping and comparing lenders.
Yet, you might have concerns about multiple inquiries on your credit report.
- Will this hurt your credit score?
- More importantly, will multiple inquiries make it harder to get approved?
Here’s what you need to know about rate shopping, and how multiple applications affect your credit score.
Why Shop Around for a Mortgage?
To be clear:
There’s no rule that says you have to shop around and compare rates when applying for a mortgage loan.
However, many mortgage and finance experts recommend getting a rate quote from at least three to four mortgage lenders. This can include banks, credit unions, online lenders, and mortgage companies.
Some people skip this crucial step when applying for a home loan.
If they have an account with a local bank—maybe a checking or savings account—they might only contact this financial institution.
But while applying for a mortgage with your current bank can result in a decent rate, your bank might not offer the best deal possible.
Getting a mortgage can be expensive. Not only because you’re requesting a large sum of money, but also because banks charge interest on loans.
Interest is what you pay for the privilege of borrowing money, and rates can vary considerably.
For example, one bank might quote a rate of 4% whereas another bank quotes a rate of 3.8%.
If you’re getting a $200,000 mortgage with a 30-year fixed-interest rate, this can be the difference of $25 a month and $8,000 over the loan term.
Difference in fees
Rate shopping isn’t only important for comparing interest rates.
Getting a mortgage also involves fees. You're responsible for closing costs, too, which are lender and third-party fees.
These expenses include the loan origination fee, attorney fees, title search fees, and other costs.
And interestingly, settlement fees or closing costs aren’t the same across the board.
When rate shopping and comparing lenders, you can also compare loan fees.
How Multiple Applications Affect Your Credit
While rate shopping is important, it does require submitting different mortgage applications to multiple lenders.
Lenders must get a clear picture of your credit history before quoting a rate.
This can raise concerns, especially if you know how inquiries impact credit scores.
Every loan or credit application you submit adds a new inquiry to your credit report.
And unfortunately, too many inquiries can have a damaging effect on your credit score.
There are two types of inquiries:
- soft inquiry
- hard inquiry
A soft inquiry or soft pull often occurs when your bank needs an updated FICO score.
Or, if you’re applying for a job that requires a credit check as part of the screening process.
A soft inquiry doesn’t affect your credit score, so you don’t have to worry about these. On the other hand, a hard inquiry occurs when you apply for a loan or rate shop for financing.
With a hard inquiry, you’re actively looking for financing.
In which case, each inquiry can reduce your credit score by two to five points. On average, it takes about three months to recover these lost points. So it’s important to spread out credit applications.
When applying for a mortgage, you don’t want to ding your credit score. Therefore, you might conclude that it’s best to only apply for one mortgage.
The good news:
Credit scoring models are designed to identify rate shopping patterns. They can make a distinction between searching for a single loan, and searching for several new loan.
When done correctly, your credit score won’t suffer when submitting multiple mortgage applications.
Rate shopping window
To protect your credit from damage, you should rate shop within a 14 to 30-day window.
This is important because all inquiries occurring within this window will count as one inquiry on your credit report.
Let’s say you submit a mortgage application with five lenders.
Instead of five inquiries and losing up to 25 credit score points, these count as a single inquiry.
Thus, you might only lose up to five points.
You’re able to rate shop with confidence, and hopefully get the best interest rate, terms, and fees.
Why Do Inquiries Affect Credit Scores?
You might ask, why are credit inquiries a big deal? And if I have good credit, does it matter how often I apply for credit?
From a lender’s standpoint:
Yes, it does matter.
Historically speaking, multiple credit inquiries within a short span of time are associated with greater risk. This can indicate financial trouble.
According to MyFICO, “individuals with six or more inquiries in a short span of time declare bankruptcy more often than people with fewer inquiries.”
So when a lender reviews an applicant’s credit and sees that they’ve applied for several new lines of credit within a few weeks or a few months, they might deny their request as a precaution.
Other Factors That Affect Credit Scoring
Even though lenders use the number of recent credit inquiries to gauge risk, new credit only makes up 10 percent of your FICO score.
This is a small percentage. So as long as you don’t overdo it, applying for credit will have little effect on your overall credit history.
As a general rule of the thumb:
Whether you’re applying for a mortgage loan or another type of credit, only apply when necessary.
Oddly enough, applying for new credit can sometimes help your credit score. More so when you’re applying for a “new” type of credit. Several factors make up credit scores, with credit mix also making up 10 percent of your score.
For a strong credit score, you shouldn’t have a single type of credit.
Instead, you want a healthy mix.
This might include a credit card, a retail account, and an installment loan like a car loan or a mortgage.
Obviously, you have to apply for new credit to improve your credit mix. But again, the key is not to overdo it.
Other factors used to calculate your FICO score include payment history (35 percent), amount owed (30 percent), and the length of your credit history (15 percent).
Tips When Applying for a Mortgage
Getting a mortgage isn’t as easy as submitting a rental application. Here are a few tips to improve your approval odds:
1. Check your credit report
Before applying for a mortgage, check your own credit report to confirm the accuracy of information.
Negative items reported in error can lower your credit score. You’ll need to dispute and remove any errors before applying.
Keep in mind, checking your own credit report doesn’t hurt your credit score.
2. Pay your bills on time
Since payment history makes up 35 percent of your credit score, always pay your bills on time. Set up payment reminders or automate payments to avoid late arrivals.
Paying late not only results in late fees, a single 30-day late payment on your credit report can reduce your credit score by as much as 50 to 100 points.
3. Pay off credit card debt
Too much credit card debt can also lower your credit score.
Typically, credit card balances should never exceed 30 percent of your credit line.
To pay off balances, negotiate a lower interest rate, increase minimum payments, and stop using the card.
4. Don’t cosign a loan
Cosigning a loan helps another person get credit. But it can also lower your credit score if her or she manages the account irresponsibly.
The cosigned debt will appear on your credit report, too. This can increase your debt-to-income ratio and possibly reduce your purchasing power.
And if the primary signer doesn’t pay the bill on time, this can negatively affect your credit score.
5. Only rate shop when you’re ready to buy a house
To shop multiple loans without damaging your credit, only rate shop when you’re absolutely ready to purchase a home.
Remember, you want all your applications to take place within a 14 to 30-day window.
If you rate shop over a period of three to six months, you’ll trigger multiple inquiries on your credit report and lower your credit score.
A lower score might not prevent an approval, but it can result in a higher mortgage rate.
Qualifying for a mortgage to buy a house provides a sense of accomplishment and helps you realize your dream of ownership.
Getting a low rate is just as important as getting a great sale price. But while rate shopping is important, you must do so correctly to avoid damaging your credit score.