If you want to buy a house, having good credit and making a down payment are both important pieces of the equation. Depending on your circumstances, it might make sense to focus on one first or to pursue both goals simultaneously but prioritize one over the other.
When to Focus on Paying Off Credit Card Debt
Your credit score is one of the most critical pieces of information that a lender will use to evaluate your mortgage application. If you have a low credit score, you might only qualify for a loan with a high interest rate, or you might not be able to get a mortgage at all.
Paying off credit card debt, or at least reducing your balances, can help. It will lower your credit utilization ratio, which is the percentage of the credit you have access to that you’re currently using. That’s one of the top factors used to determine your credit score.
High credit card payments can lead to a high debt-to-income ratio, which can make a lender perceive you as a risky borrower. That can make it hard to qualify for a mortgage with a competitive interest rate. Reducing your debt will lead to a lower debt-to-income ratio and improve your chance of getting approved for a loan with attractive terms.
Reducing or eliminating credit card debt can save you money in the long run. Credit cards tend to have high interest rates. If you’re paying a lot in interest each month but not making much progress when it comes to reducing your principal, it will make sense to put as much money as possible toward your credit card bills.
When to Focus on Saving for a Down Payment
If you have a good credit score and a relatively low credit utilization ratio (30% or less) and you can comfortably manage your credit card payments, saving for a down payment should be your priority. Putting a substantial amount down means you won’t have to take out a large mortgage. A sizable down payment can make a lender perceive you as a lower-risk borrower, which means you’ll be eligible for a loan with a lower interest rate.
If you take out a conventional loan and put down less than 20%, you’ll have to take out private mortgage insurance to compensate the lender if you default. You won’t have to purchase PMI if you put down at least 20%. That can save you hundreds or thousands of dollars per year.
Make the Decision That’s Right for You
Everyone has unique financial circumstances, so there’s no one-size-fits-all approach. Look at your current debts, interest rates, credit utilization ratio and debt-to-income ratio and figure out whether you should focus on paying off credit card debt or saving for a down payment.