Buying a home is probably the biggest financial decision one will make in their life. When you apply for a home loan, your lender needs to make sure you are a suitable borrower. When you have a credit card, your credit limit will be taken into consideration and can reduce how much you can borrow. This can, in turn, affect your home loan application.
This doesn’t necessarily mean having a credit card is a bad thing. But you should be aware of how having and using a credit card can affect your chances of home loan approval.
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Why do lenders care about credit card use?
When your lender is assessing your application, they will look into your current financial situation. One such thing they have to consider is how much you can borrow - known as your borrowing power.
When you have outstanding debts like personal loans, car loans, even credit cards all of these things chip away at your borrowing power. You would need to be able to manage a home loan on top of all of these financial commitments.
When it comes to credit cards, lenders will consider your entire credit card limit rather than your outstanding credit card balance when calculating your borrowing power. Meaning, even if you’ve only spent $1,000 on your credit card, but your credit limit is $30,000 - your borrowing power will likely be reduced by $30,000 regardless.
This is because you could spend up to your credit limit - even if you never do - and lenders need to account for this potential debt when calculating your borrowing power. They need to make sure you can afford to service your loan even if your credit card/s are maxed out.
Your credit card usage can also impact your credit score - a representation of your trustworthiness as a borrower. Your lender will look at your credit score and your past financial behaviour when deciding whether or not to lend to you. This means if you are consistently misusing or mismanaging your credit card - this will be evident and reflected in your credit score. Odds are, this won’t bode well for you.
If you have a low credit card limit and consistently make your repayments on time this could positively impact your credit history. However, many banks and lenders would prefer a ‘thin’ credit file as opposed to a lengthy yet compromised one. Ultimately, it comes down to how you use your credit card.
Can you be approved for a mortgage with credit card debt?
With all this information in mind, you may wonder whether it’s even possible to be approved for a home loan if you frequently use your credit card. The short answer is yes, but it can come down to how you use your credit card, your financial situation, and your credit limit.
If your lender finds that you can reasonably manage your mortgage repayments - even with your credit card limit/s factored in - your application could still be approved. Whether you’re approved will also depend on a range of other factors including your income, your employment, any other liabilities (personal loans, car loans), credit history and so on. Basically, your approval is contingent on a lot more than whether you have and use a credit card.
If you’re not sure whether having a credit card (or credit cards) will impede on your home loan application, you can use a borrowing power calculator to see how much you could be able to borrow currently. A borrowing power calculator will give an estimate of how much you could borrow for a home loan with the expenses you have, including the credit card bill.
If you find that you’re unable to borrow as much as you’d like to, there are still ways to improve your chances of home loan approval - even with a credit card.
Should you close your credit cards before applying for a home loan?
The answer will come down to how you use your credit card/s and whether you have other debts to consider. If you have multiple credit cards with very high limits, it may be wise to scrap them or at least lower your credit limits before you apply. You could also look at balance transfer credit cards, and consolidate your debt to one card.
If you have a range of other liabilities - like a personal loan or car loan you haven’t yet paid off - getting rid of your credit card/s could be an easy way to decrease your liabilities and therefore increase your borrowing power over time.
You may feel more comfortable applying for a home loan with as little debt as you can; if so, you may find it more suitable to pay off and cut up your credit card/s before you apply. On the other hand, if you use your credit card to earn reward points, you always pay it off at the end of the month, and/or you use it as a tool to show good borrowing history, it may end up benefiting your home loan application.
Remember, taking on a home loan is a really big responsibility. If you’re still struggling to pay off some old credit card debt or other personal loans, it may be better to get these things sorted before you apply for a mortgage.
Tips for strengthening your home loan application
There are a few ways you can strengthen your application while still keeping and using your credit card/s. The main goal is to reduce your liabilities and increase your borrowing power as these can improve your chances of home loan approval.
Reduce your credit limit/s
Your lender considers your credit limit rather than how much you spend. A relatively easy way to strengthen your position before applying for a home loan is to lower your credit card limit/s. This way, you can keep using your credit card and your lender has fewer liabilities to consider.
Keep track of your spending
The last thing you want to do is damage your credit score before applying for a home loan. Be sure to keep track of your credit card spending to minimise the chances of missing a repayment and potentially damaging your home loan application.
Pay down other debt
If you want to keep your credit cards in clutch, another way to increase your borrowing power is to pay off other debts. For example, if you have a personal loan, try pay off as much of this debt as possible.
Pay off your credit card/s in full
Another good way to keep your debt in check is to pay off your credit card/s in full each month - or at least make more than the minimum repayment. Credit card debt can accumulate quickly, especially if you have a high interest rate and multiple cards in use. It can be helpful to not spend more than you can afford to pay.
Show good borrowing behaviour
Your lender wants to see that you’re a responsible and trustworthy borrower before approving your loan. Be sure to show good credit behaviour for at least a year before you apply for a home loan. This is because your lender can access up to 12 months of your bank statements when looking over your application. Good borrowing behaviour should also be reflected in your credit score, which lenders can also access when assessing mortgage applications.
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Harry O'Sullivan
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