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How your credit score affects how much you'll pay for a home

A home is the largest purchase most people will make in their lifetime. And no one would claim that buying a home is an easy process. Negotiations, offers, counteroffers, qualification, down payments, mortgage rates, mortgage terms, and many other items are individual tiles in what turns into a rather complicated mosaic.

You understandably want to acquire the home for the lowest price possible, but negotiating a figure with the seller is only part of what determines how much you'll ultimately pay (i.e., by the time you're through with all of your mortgage payments). A critical factor that significantly affects what you'll eventually pay for the home is your mortgage rate, which is in large part, determined by your credit score.

Your credit score - what it means

A credit score is, essentially, a measure of a person's creditworthiness. The higher the number, the more financially reliable the borrower appears to a potential lender. So a higher credit score not only increases your chances of a mortgage approval by a bank, but also means a lower mortgage rate. So it makes sense - as well as dollars and cents - to raise your credit score as much as possible before applying for a mortgage, as doing so will insure you get a lower interest rate, which literally could save you tens of thousands of dollars over the life of the average 30 year mortgage loan.

Credit scores are generally measured on a scale from 300 to 850. The Washington Post recently reviewed a study on how credit scores influence the amount of interest paid, which was conducted by HSH.com, a mortgage information website. Here is how your credit score could affect your interest rate, based on current figures:

750 or higher: The median mortgage rate is 3.62%, and the highest rate for people with this credit score is around 3.88%.

725-750: The median rate remains at 3.62% and the highest rate rises to about 4%.

700-725: The median rate goes up to 3.75% and the high end goes up slightly, to about 4.1%

675-700: The median rate remains around 3.75%, but the rates on the high end are about 4.25%.

650-675: The median rate stays at 3.75%, and the highest rates are just under 4.4%.

625-650: The median rate is about 3.88%, and some in this category are over 4.5%

Below 625: It may be difficult to get a loan. If a loan is approved, the interest rate will be quite high. It is best to improve your credit score before applying for a mortgage.

How much difference does it really make?

The difference between the highest and lowest rates mentioned above - 3.62% and 4.5% - may seem small, but translates into very big numbers over the course of a 20- or 30-year mortgage. To illustrate:

If a home is purchased for $200,000 and 10% is paid as the down payment, a 30-year mortgage for the balance ($180,000) at rate of 4.50% means that a total of $148,300 will be paid in interest over the course of those 30 years. However, if the interest rate is lowered to 3.62% on that same mortgage, that amount drops to $115,300 - a savings of $33,000.

How can you raise your credit score? Paying bills on time and keeping credit card balances below 30% of the total available credit on each of your accounts are good ways to start. Moving up just one or two levels in credit score can make a significant difference in the final amount you'll pay for a home.  

Hence, although mortgage interest rates are just one aspect of purchasing a home, the difference in total payments can be huge. To ensure that your best interests are protected throughout the purchase process, it is advisable to work with an experienced real estate attorney.

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