There have been countless books and articles written over the years about the importance of maintaining good credit. The reasons are myriad, but when you boil it all down the real issue is how much money your credit, good or bad, is going to cost you. We all want to earn, and keep, as much as possible to maintain our lifestyle. Our credit plays a vital role in our ability, or inability, to accomplish this.
So how does good credit stack up against bad credit in regards to the amount of money spent over the term of a loan? how-much-bad-credit-cost-you/ What folows is an illustration of two men, both looking to purchase the same style home in the same neighborhood for the exact same price, which for this example is $350,000.
Buyer Number 1 is a mid-level executive who earns $120,000 per year for a company he has worked for since he graduated college. He has practiced frugality in all his spending habits; sticking to a monthly budget; diligently setting aside money in growth funds; and always paying his bills on time without fail. His credit is nearly flawless as indicated by his FICO score of 825. Potential lenders will surely offer a loan at the current lowest interest rates as a reward for his good credit history. He has set aside $15,000 as a down payment towards the purchase of the house.
Buyer Number 2 is also a mid-level executive earning $120,000 per year for a company he has been with for a little more than a year. He has a history of changing jobs, even occupations, every two years or so. He has lived his life up to this point with the mindset of “spend it while you got it”. Subsequently he has little in the way of savings or investments. Because of his careless spending habits he often runs out of money and is late on his bills more often than not. His current credit situation makes him a far greater risk than Buyer Number 1. Potential lenders are going to carefully scrutinize his finances before deciding to go ahead with the loan. Through a sheer stroke of luck he has inherited a moderate amount of money and has decided to use $15,000 of this windfall towards the purchase of a home. His FICO score right now is around 625.
Given the above parameters let’s compare the cost of the home purchase for each man using current interest rates. Buyer Number 1 because of his excellent credit qualified for a fixed-rate 30-year mortgage loan at 6.32%, while Buyer Number 2 with his bruised credit barely managed to qualify for a fixed-rate 30-year mortgage loan at 8.25%.
So how do these numbers compare against each other over the 30 years of the loan?
Buyer Number 1 has his monthly payment fixed at $2262.93, while Buyer Number 2 has his monthly payment fixed at $2701.24. Given the difference of $438.31 between monthly payments it is now a simple matter of multiplication. Over 30 years Buyer Number 2 will pay an additional $157,791.60 for the same house as Buyer Number 1.
Buyer Number 2, because of his bad credit, is literally paying in higher interest what amounts to the cost of another home over the 30 years of his mortgage loan. If you think this example is far-fetched then think again. It is a scenario that occurs in our country every day and there are instances where the disparity and dollar amounts between mortgages are much higher.
This simple example clearly illustrates that if you have good credit do everything you can to keep it that way, and if you have bad credit start now to fix it.