The recent run of historically low mortgage rates has been a boon to the most credit-worthy borrowers. The best deals on home loans go to borrowers with credit scores above 740, and many Americans who refinanced or took purchase mortgages in the past year boasted credit scores approaching 800, a near-perfect mark.

But most Americans have credit scores that are 100 points below those lofty levels. If your credit score is below 740 – and most Americans fall in the range of 710 or below, according to credit bureau Experian – you can still get a purchase mortgage or refinance your existing loan.

However, you’ll have to choose between paying a bit higher interest rate on a conventional loan or paying higher fees on a mortgage through the Federal Housing Administration or the U.S. Department of Veterans Affairs.

The credit score gap

Your credit score is the biggest factor in determining your interest rate. The highest possible credit score in the FICO system is 850. A score higher than 740 is considered excellent.

Fully half of Americans 56 and younger have credit scores in the 600s or lower, according to Experian. While baby boomers’ median credit score is 755, millennials’ median credit score is just 678. Even Generation X, whose elders are well into their 50s, has a median credit score of just 699, Experian reports.

“The baby boomers and the silent generation are pulling everyone’s average up,” says Ilyce Glink, CEO of Best Money Moves, a financial wellness firm.

In late 2020 and early 2021, mortgage borrowers’ median credit scores reached a record high of 788, according to the Federal Reserve Bank of New York. The typical credit score for mortgage borrowers had dipped to 781 in the third quarter. During the era of loose lending that led to the Great Recession, by contrast, the median credit score of mortgage borrowers fell to as low as 707.

Meanwhile, only a quarter of borrowers who landed home loans during the summer months had credit scores of less than 729. Just 10 percent had credit scores below 677, according to the New York Fed’s data.

If your credit report looks good but not great, don’t despair: You still can qualify for a loan. However, you will have to make a tradeoff, either by paying a bit more for a conventional loan or by taking another type of loan with competitive interest rates but higher fees.

Option 1: Pay more for a conventional loan

For most borrowers, mortgages backed by Fannie Mae and Freddie Mac offer the best value. These loans deliver the best rates to borrowers with credit scores of 740 or higher.

However, you still can qualify for a conventional loan with a credit score as low as 680, says Rocke Andrews, broker-owner at Lending Arizona in Tucson.

The downside is that you’ll pay a higher interest rate. If you’re putting at least 5 percent down on the property, expect to pay an extra 0.375 percentage point.

On a 30-year mortgage for $300,000, that equates to about $60 a month. In other words, the penalty for a less-than-stellar credit score is about $720 a year.

Option 2: Opt for an FHA or VA loan

The FHA mortgage program is designed for homeowners who can’t qualify for conventional loans, either because of credit problems or a lack of funds for a downpayment. FHA loans are available for borrowers with credit scores as low as 580.

While FHA interest rates are competitive, there’s a costly catch: All FHA loans require the borrower to pay two mortgage insurance premiums. There’s an upfront mortgage insurance premium of 1.75 percent of the loan amount – on that $300,000 example, $5,250.

FHA loans also impose an annual mortgage insurance premium of as much as 1.05 percent, which can add hundreds to your monthly payment.

VA loans are available to active and former members of the U.S. military. They require no minimum credit score, but they come with a funding fee of 2.3 percent – or $6,900 on a $300,000 loan.

How to improve your credit score

While you can qualify for a loan with less-than perfect credit, you should keep striving to boost your score for future loans. Three tips:

Pay on time. Payment history is the most influential factor with both FICO and VantageScore credit scores. With FICO in particular, payment history is worth 35 percent of your credit score. Late payments — even occasional ones — can have a severe negative impact on your credit score. If you need help breaking the late payment habit, automatic payments and an emergency fund could both work in your favor.

Lower your credit utilization rate. After your payment history, your debt relative to how much credit you have available is the next most important factor in your credit score. FICO bases 30 percent of your credit score on the “Amounts Owed” category of your credit reports. Your credit utilization ratio — the relationship between your credit card balances and limits — has a big influence here. When you pay down your credit card balances and lower your utilization ratio as a result, your credit score may improve. To quickly determine your current ratio, check out Bankrate’s credit utilization ratio calculator.

Don’t apply for new accounts too often. When you apply for a new line of credit, a hard inquiry is recorded on your credit report. This type of inquiry has the potential to lower your score temporarily. A hard credit inquiry will remain on your credit report for 24 months and may impact your credit score for the first 12.

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