Your gold or platinum credit card can make your payments online or in-store seamless and convenient but it could ultimately ruin your chances of getting a competitive home loan, especially if you are not responsible.
While it is true that credit cards can help you build your credit score, there are some factors about your credit card that might be your downfall when it’s time for you to apply for a home loan.
How does your credit card affect your credit score?
Just like universities used your high school grade point average (GPA) to gauge your likelihood of success at university, lenders use your credit score to determine whether you’ll be able to repay a loan.
When borrowing money, banks will look at your credit score as an indicator of risk — the lower your credit score is, the riskier you appear to lenders.
How you use your credit card can impact your overall credit score. If you do not pay your bills on time or miss several payments, do not expect a good credit report. A single instance of missed credit card repayment has a high chance of derailing your home loan application.
However, home loan rejection is not always the case with a poor credit score. Some banks might let you borrow if you have a low credit score, but they will likely give you a higher interest rate.
Here are some things you should know about your credit card and how it can affect your home loan application:
Lenders consider your credit limit when applying for a home loan
When banks assess home loan applications, they look at not just your income but your expenses. Under the expenses umbrella, they examine your existing debt repayments.
You might think that they will only consider how much you pay for your credit cards monthly — meaning, if you never really used your cards, this item in their computation will be zero. However, lenders do not typically look at your credit card payments or your balance. Rather, they will look at your credit limit and base their assumptions of your credit card usage there.
Some have at least two credit cards, with varying limits and balances but whether you use them all or not, lenders will still consider the cumulative limit of your cards when they assess your loan application.
Oftentimes, they assume that your monthly repayment is roughly 3% of your card's limit. The higher the limit, the lower your borrowing capacity will be. This is because they see your credit limit as a plausible debt level in the future.
For instance, if your credit limit is at around $10,000 for the two cards, most lenders will assume the minimum monthly payment to be at around $300 per month. This applies whether you have already maxed out your limit or if you owe just $10 on the credit card account at the time of application.
This makes it important for you to have an idea of your borrowing power first before you take a dive — you can make your own computation or reach out to your broker to help you determine how much you can borrow, especially if you have a lot of outstanding balance in your credit cards.
Having multiple cards will hurt your home loan application.
Having several credit cards is a huge red flag for lenders, leading them to suspect that you are living way beyond your means. What would make matters worse is the credit limit each of your cards has.
As mentioned earlier, your lender will look at your credit limit when you apply for a home loan. This means that the more cards you have, the higher the monthly credit card payments your lender will assume you have.
If you are using multiple credit cards to organise your finances, then you might need to consider calling your providers to lower the limits to the bare minimum.
By doing this you will not only put a lid on your temptation to charge frivolous extra expenses to your card, but you’ll also put yourself in a better position to get a loan when it comes time to apply for a mortgage.
Overusing your credit cards leads to terrible score.
If you use your credit card too often to the point that you exceed your card limit, then you are in big trouble when you apply for a mortgage. Not only will this ruin your credit score, but it will also increase your overall credit utilisation ratio significantly. This ratio tells your lender how much credit you have already used vis-a-vis the credit available to you.
Closing a credit account only ruins your credit score.
While terminating a credit card is a strategic move, it is not advisable to do so when you are about to apply for a home loan. Closing an account if you have a huge credit card debt will also not improve your credit score.
How should you use your credit card to boost your chances of getting approved for a home loan?
It all boils down to how responsible you are as a credit card holder. Using your credit card will actually improve your credit score, albeit only if you do it with prudence. If you pay using your card and you pay the balance promptly, it creates a good borrowing-paying pattern which your potential lenders can see.
You can also ask your bank to lower your credit limit. Try as much as possible to reduce your limit to the lowest level possible. Doing so will let you hit two birds in one stone: it will increase your chances of getting your home loan approved and you will get to control your credit card usage.
Being responsible is the key here. You would want to show your banks how good you are in servicing your debt and in handling your finances. You can consult a mortgage broker to check your options. They may help you find lenders with more flexible rules when it comes to credit card usage. Brokers can also guide you to determine the steps you need to take to ensure your credit card does not reduce your borrowing capacity significantly.