Credit Scores and Interest Rates

You have probably read enough information to understand that your credit score plays a big role in whether or not you will be approved for a mortgage. You might even have a vague understanding that, even if you are approved for a mortgage, your credit score will impact the interest rate you will pay on your mortgage. The interest rate, the length of the mortgage, and the home’s selling price then combine to determine your monthly payment. But, what does all of this mean to your wallet in real dollars?

In this blog post, we will take a look at different FICO credit scores and show how they affect your interest rate, monthly payment, and the total interest you will pay over the life of a home loan. Let’s get started.

  • FICO Score
  • 760-850
  • 700-759
  • 680-699
  • 660-679
  • 640-659
  • 620-639
  • Interest Rate
  • 3.409 %
  • 3.631 %
  • 3.808 %
  • 4.022%
  • 4.452 %
  • 4.998%
  • Monthly Payment
  • $444
  • $456
  • $466
  • $479
  • $504
  • $537
  • Total Interest Paid
  • $59,833
  • $64,300
  • $67,909
  • $72,326
  • $81,381
  • $93,212

The table shown above will be at the heart of our discussion. Let’s take a moment to ensure we understand what it’s showing us. First, you should know the table is based upon a $100,000 mortgage with a term of 30 years. The interest rates being show are those available when this post was written.

Credit Scores:

The left column shows us different FICO credit scores. FICO is a credit scoring system. There are a lot of different scoring systems being used, but FICO is the most common. Your personal credit score is a result of your financial habits, including: do you make your payments on time and in full, do you carry balances on your credit cards from month to month, what types of debt do you have, and many more.  If you have good financial habits, your credit score goes up. If you have bad financial habits, your credit score goes down. High is good, low is bad.

Interest Rate:

The interest rate of your mortgage represents the cost of your loan based on the amount of your loan’s principle and your level of risk. In addition to points, and  application and origination fees, the interest rate determines the lender’s profit.

When a loan officer looks at your mortgage application, they want to know if you are going to be a big risk or not. Think of the loan officer as though they were making a bet on whether or not you will be able to afford the home and pay off the loan. If you are a low risk, they will think you are a safe bet and charge you a lower interest rate. If you are a high risk, they will think you are a risky bet and will charge you a higher interest rate to offset the risk. If you are too big of a risk, they won’t bet on you at all and will not approve your mortgage loan application.

What makes the loan officer decide if you are a good risk or not? A lot of factors are considered, but you can bet that your credit score is one of the biggest factors being used.

Monthly Payment:

This one is pretty easy. Your monthly payment is determined by the amount of money you borrow, the length (or term) of your loan, and the interest rate you are being charged. In this table, the term is 30 years and the amount of the mortgage is $100,000. This means the only variable is your credit score. Notice that high credit scores are charged the least amount of interest and enjoy the lowest monthly payment. What about low credit scores? The smaller the score, the higher the interest rate and monthly payment.

Total Interest Paid:

When we look at the monthly payments, we can see that there is less than a $100 difference between what the highest credit scores and the lowest credit scores pay for the home. Some people might think that is a huge difference in their monthly payment and others might think that’s not much at all. However, when we consider the payments being made over the entire 30 year term of the loan, we can see the total interest paid varies by a massive amount.  The person with good financial habits and a high credit score only pays $59,833 in interest while the person with bad financial habits and a low credit score pays a whopping $93,212 in interest for the same home. That’s a difference of $33,379.

I don’t care who you are, that’s a lot of money. Think about it. The difference in interest is the cost of a college education or could even be put into a retirement account.

The bottom line?

Establishing good financial habits always saves you money in the long run. You will have a higher credit score and you will be charged a lower interest rate for all of your loans including auto loans, credit cards, and your home loan.

Need help getting your finances ready for a mortgage?

If you are struggling to get your finances in shape to buy a house, we have the perfect solution. Attend our Financial Fitness Class and learn the fundamentals of managing your money and establishing good financial habits.

Call us at 937.853.1600 or learn more here: Financial Fitness Class.