By Bethy Hardeman for Credit Karma
You’ve heard it before: You should improve your credit. But do you know just why you should focus on your credit health? It’s not just because you can qualify for credit cards with great rewards — though that’s a nice perk. A great credit score can actually save you some big bucks on longer-term loans.
Good Credit Helps You Save on Your Mortgage
One of the most well-known ways that your credit score saves you money is by getting you low interest rates on loans. While the rate difference may be only a few percentage points, the overall cost difference can be huge.
Let’s take a few examples, based on the rates FICO publishes in its Loan Savings Calculator.* (These examples are based on a 30-year fixed mortgage of $300,000.) Three people are applying for a mortgage: Huey, Dewey and Louie. Huey has worked hard to get an excellent credit score or 760. Dewey is feeling fine with a good credit score of 700. Louie’s credit could use some work; he has a fair credit score of 620.
Huey is ready to buy a home and is approved for a 30-year fix mortgage with an APR of 3.056%. His monthly payment is $1,274, which means he’ll pay $458,640 total on his mortgage over 30 years.
Dewey is also approved for his home loan, but with an APR of 3.278%, which makes his monthly payment $1,310. Over the 30 years of his loan, he’ll pay a total of $471,600.
Now, Louie has a hard time getting approved for a mortgage. When he finally gets one, he’s given an APR of 4.645% with a monthly payment of $1,546. Over the next 30 years, he’ll pay $556,560 on the mortgage – $97,920 more than Huey and $84,960 more than Dewey.
Granted, these numbers don’t take into account a few things. If you apply for a mortgage with a credit score of 620, and you’re responsible with your payments, you’ll probably see a credit score boost over time, which will allow you to refinance your mortgage to a lower interest rate. But the fact remains that you’ll still end up paying a lot less if you start out with good credit.
Kick-Start Your Credit
So now you know the potential savings of a great credit score. But what do you do if you’re just starting out? You shouldn’t apply for a loan just for the sake of building credit; there are other, low-cost options. Start with a secured credit card, which is backed by a cash security deposit that you provide and comes with guaranteed approval. Use your secured credit card for small purchases and pay it off each month before the due date.
Monitor your credit regularly at Credit Karma to see how your actions are affecting your score. After six months to a year, you should see the positive benefits reflected in your credit score, and you may be able to qualify for an unsecured credit card.
Don’t wait until you’re ready to apply for a mortgage or car loan to make these good credit moves. By then, it’ll be too late. Building credit takes time and patience.
Bethy Hardeman writes on credit, personal finance and the economy for CreditKarma.com, a free credit management website that helps more than 8 million people access their credit score for free.
*Keep in mind that you have dozens of different credit scores, according to the CFPB, so these rates may differ depending on the credit score model your lender uses.
(Photo courtesy of Casey Serin)