The season of giving brings cheer for many, but before the holidays arrive, we need to discuss how holiday shopping can severely damage a credit score. More importantly, buyers, especially a first time home buyer with limited credit could receive a credit denial for a home purchase. Talk about “Bah Humbug!” Therefore, we want to help everyone understand the effect that holiday shopping sprees have on credit scores. Don’t worry; we have tips to safeguard your home purchase.
Holiday Shopping Brings Credit Card Debt
We are constantly reminded of credit card specials whether shopping in a mall or online, “Open an account and receive a 25% discount off today’s purchases.” Hmmm, 25% off a $200 purchase is a $50 savings! Plus, everything purchased was on sale that saves an additional $50. So, that’s a $100 savings! Sign me up, right? Well, let’s discuss the dark side of holiday spending.
How It All Starts
Let’s say during a Saturday shopping spree in the mall; a shopper opens two department store credit cards. Because of the discounts, sales, and the choice to buy gifts for the family and friends, the shopper places the new purchases on the cards. You know, to get the discounts. The credit limits for each new card is $300 each, and the charges are $270 each.
Furthermore, assume that is all the shopping done for the whole season since the shopper is also going to shop for a home next month. Many would think, this is pretty good. Getting through the holidays spending just over $500 is a definite win! But, this home buyer has a potentially big surprise lurking around the corner next month.
Opening New Credit Hurts Credit Scores
On the surface, $540 in new credit card balances looks pretty good, but we just described a scenario which could hurt credit scores by 50, 100, or more points. That’s without any late payments! There are three key areas negatively affected, which make up 55% of a credit score.
- Credit inquiries
- Age of credit
- Credit utilization
There must be a credit inquiry to receive the credit card. When the credit inquiry takes place, the shopper’s credit is pulled to determine card approval. Credit inquiries make up 10% of an individual’s credit score. Next, there is the overall age of the credit which comprises 15% of the score. Opening two new cards lowers the average age of a credit file. This is especially true for someone who has a thin credit file.
Finally, there is the big one – credit utilization, and it accounts for 30% of a credit score. Credit utilization means balance compared to credit limits as a percentage. The higher the percentage, the worse the damage to a credit score. So, our example of owing $270 on a $300 credit limit is a 90% utilization. That’s bad, and if it happens before or even worse, during mortgage application, it can be catastrophic to a mortgage approval!
Holiday Shopping Plan for the Home Buyer
Hopefully, it is easy to see how these small, new charges may make a huge impact on a home purchase. Now that stores are pushing the holidays forward into early October, the marketing pressure affects a larger share of buyers. So, to combat this explosion of holiday credit offers before a home purchase, there are five key areas to concentrate on:
- Execute the plan
- Get the keys!
Learn How the Home Buying Process Works
Education is the key, and it starts with something as easy as reading an article like this. The reason we provide these articles is to educate buyers, homeowners, and real estate professionals. A buyer should research best practices before any sizeable financial decision takes place. A large part of this learning phase should involve a knowledgeable and caring mortgage loan officer. The loan officer will expertly:
- Listen to your goals
- Determine the loan options
- Explain how each option compares to the buyer’s goals and scenario
- Lay out the mortgage & purchase process
- Warn of potential pitfalls (opening new accounts & increasing balances!)
Create a Home Purchase Plan
In developing a home purchase plan around the holidays, it adds a little extra talk about credit utilization. The reason is it may involve giving less to achieve the best chance of loan approval and better rates. Maybe the amount of buying does not change, but the method of purchase does change. For instance, paying cash during holiday shopping could be the best option. Money in the bank is also key for a mortgage loan Communication between the loan officer and buyer is very important at this moment.
Communication During the Home Purchase
That’s right, both verbal and written communication during the purchase needs to go both ways. The loan officer will communicate education, tips, loan status, and answers to questions. Buyers need to be open to loan officers. Foremost, there are no bad questions. Ask anything and everything.
In many cases, buyers do things that cause delays in the process or even denials. Most of the time, just asking a question first would have avoided the issue. For instance, depositing cash into a bank account is harmless most of your life but during the mortgage process could be an issue. As we spoke about earlier, charging $270 on a $300 credit card could drop a credit score. This affects the interest rate and even loan approval. A core belief we have is that the whole mortgage and purchase process comes down to two common denominators: Communication and execution.
Execute the Home Purchase Plan During the Holidays
So, you have listened to your loan officer, read informative articles, have been pre-approved for a mortgage, and avoided credit cards. Now, you have found the house you want, and it is time to execute. This is where the preparation pays off, and a buyer moves more confidently towards closing during or after the holidays.
Get the Keys – Be Prepared for Closing
Closing during the holidays creates another issue – vacation time and businesses closed. It would be smart to plan a few extra days into the closing date because people take off during the holidays. Appraisers, attorneys, inspectors, Realtors, and lenders are people too and enjoy the holidays. Therefore, turnaround times for some of these services may be slower. It’s also important to account for county offices being closed for recording the deed. Again, go back to communication and planning. The better the preparation, the better the result!
We wish you happy holidays, smart holiday shopping, as well as happy house hunting! Share this to help others avoid this closing killer!