Picture this: you’re looking to purchase a house in the near future, so you’ve been checking your credit score regularly to make sure you’re on track. One day, you go to check it when suddenly…your credit score has dropped, maybe by 10, 20, 50 points, or even more. When a new home is on your radar, that change can feel especially alarming, and you’re likely asking yourself, “Why did my credit score drop?” A strong credit profile is a key part of securing favorable mortgage terms, so understanding what happened, how to respond, and how to avoid that kind of dip is important.
In this article, we’ll walk through the various reasons why your credit score might have decreased and provide a roadmap for how you may mitigate the situation, so it doesn’t derail your path to homeownership.
What is a credit score and why does it matter?
Before we get into the why, let’s make sure we understand what a credit score is telling lenders. A credit score is a number (typically between 300 and 850, according to the Federal Trade Commission) designed to summarize your risk level as a borrower, i.e., how likely you are to repay your debts. Lenders use it as a factor in deciding whether to lend you money, under what terms (interest rate, fees, etc.), and with what conditions. There are different scoring systems for determining a credit score, but most lenders use the FICO system.
FICO scores typically include the following factors:
- Payment history. Do you make your credit payments on time? Consistent on-time payments can help bolster your overall score.
- Credit utilization. How much of your available credit are you using? An easy way to figure this out is by adding together the credit limits on all of your revolving accounts, tallying up the total amount you owe across all accounts, dividing your total debt by your total credit limit, then multiplying that number by 100 to get your utilization percentage. A good rule of thumb is to keep your utilization under 30%.
- Length of credit history/age of accounts. How long has your oldest account been open? Older accounts exhibit your experience as a borrower.
- New lines of credit. Have you applied for a credit card or loan recently? Opening new accounts in a short amount of time may signal increased risk to potential lenders.
- Credit mix. What types of credit (revolving accounts such as credit cards, installment accounts such as auto loans, etc.) do you currently have? Having variety in your credit mix may help improve your overall score.
What are the most common reason for a score to drop?
Now that we’ve established the key components of a credit score and why that number matters, let’s explore some of the most frequent causes of a score drop. Some of the reasons may seem insignificant or innocuous, but it’s important to view them all as pieces of a bigger picture, one that can influence your likelihood of receiving a home loan.
Late or Missed Payments
In the FICO scoring system, payment history makes up 35% of the total score. With this in mind, late or missed payments are common causes of a decreased score. According to myFICO.com, “research shows that your track record of payment tends to be the strongest predictor of the likelihood that you’ll pay all debts as agreed to.” The later your payments are (and the more late payments you make), the greater the impact on your score might be.
Why this matters for homebuyers:
When you apply for a mortgage, your lender will pull your credit report and see any late payments. A recent 30-day (or more) late payment may raise concerns regarding your risk level and could lead to higher interest rates or additional conditions. It might even jeopardize your loan approval.
What you can do to resolve or prevent it:
- Immediately bring any past-due accounts current.
- For bills you have trouble paying on time, consider contacting the creditor and asking if they could move the due dates to better align with your paycheck schedule. It’s not guaranteed that they will agree to this, but it could be worth an ask.
- Moving forward, set up autopay or add reminders to your calendar to avoid future late payments.
Increase in credit utilization
If the balances on your credit cards are steadily creeping toward the limits and you don’t pay them down by the time the issuers report to the credit bureaus, you could see your credit utilization percentage spike and your overall score decline. As mentioned earlier, the recommended maximum utilization is 30% of your available credit.
Why this matters for homebuyers:
During the application process, mortgage companies will look at your debt-to-income ratio and your recent credit behavior. If your utilization jumped recently, this could signal potential risk or financial instability. Even if you’re planning to pay off the balance, the timing matters—lenders may pull your credit report again closer to closing day.
What you can do to resolve or prevent it:
- Pay balances down before the statement closing date if possible, to prevent a higher balance from being reported to the credit bureaus.
- Try to avoid charging large amounts to a credit card, unless you know you can pay it down (or even better, in full) quickly and before your statement date. This is especially important when you are preparing to apply for a home loan—those expensive furniture purchases can wait!
- Keep old accounts open, even if you no longer use them. The credit limits for these cards can increase your total available credit, which helps lower your utilization percentage.
- Consider asking for a credit limit increase. Keep in mind, however, that this could require a hard inquiry, which may temporarily impact your credit score.
A new credit application or hard inquiry
Speaking of hard inquiries, when you apply for a new line of credit, the lender will typically “inquire” into your credit report, which can ding your score by a few points. Additionally, opening a brand-new account can lower the average age of your total accounts, leading to a drop in your score.
Why this matters for homebuyers:
If you’re shopping for a mortgage, you’ll want to avoid opening or applying for any new lines of credit until after you close on your new home. While it may be tempting to open a new credit card to purchase furniture or other home items, that hard inquiry and lowered average age of your accounts can cause a score dip that may be detrimental to your loan approval.
What you can do to resolve or prevent it:
- Time your mortgage shopping to a short window. The FICO scoring system uses the length of time between credit inquiries to distinguish whether you’re opening several different new lines of credit at once or searching around for a single loan.
- Remember that you can check your credit report yourself without impacting the score. Just be sure to order the report directly from one of the three major credit bureaus (Experian, Equifax, and TransUnion) or an authorized organization.
Closed account or lowered credit limit
On the flip side, a closed account or a decreased credit limit on an existing card can negatively impact your score. Both of these scenarios can lower your total available credit, and a closed account can impact both your average age of credit history and your credit mix. Additionally, while paying off an installment account (think auto or student loans) is certainly something to celebrate in the long run, it’s important to remember that this action could cause a temporary dip in your score by changing your credit mix, average account age, and available credit.
Why this matters for homebuyers:
Your credit score isn’t just about what you owe, but rather also about how you appear to manage your credit over an extended period of time. If your profile changes (fewer active accounts, lower limits), lenders may interpret that as less credit history or less available credit cushion, thus reducing your perceived stability. Paying off a large loan could have the positive impact of lowering your debt-to-income ratio, which mortgage companies like to see, but it’s important to time that correctly in order to avoid a decreased score right when you apply for your home loan.
What you can do to resolve or prevent it:
- If you pay off a credit card, consider keeping it open (with minimal use) rather than closing it, in order to keep your average account age and total credit limit high.
- Keep older accounts active, with the help of small recurring charges and automatic payments.
- If an issuer reduces the limit on one of your cards, ask them why and request an increase (without triggering a hard inquiry), if your account is in good standing.
- Avoid making big credit structure changes in the six to 12 months leading up to a mortgage application.
- Before you pay off an installment loan in full, consider how it could impact your credit score. If the loan isn’t your oldest line of credit and if you have a diverse credit mix without that account, it may not have an impact on your overall score. However, if it’s one of your longest-held accounts and your only installment loan, you may want to wait and pay it off after you close on your new home.
- Monitor your credit and explain in writing to your lender if a payoff or account closure caused a temporary drop.
Derogatory marks
A derogatory item on your credit report “typically indicates a serious delinquency or late payments” and can “represent significant credit risk to lenders,” according to Experian. Derogatory marks include bankruptcy, charged off accounts (which happens when a creditor gives up on collecting an unpaid debt), a collections account, etc., and can severely impact your credit score.
Why this matters for homebuyers:
This is one of the biggest red flags that mortgage underwriters look at. A derogatory mark raises questions about how reliable you are as a borrower and could result in less favorable loan terms or even application rejection. Additionally, a derogatory mark can stay on your credit report for as many as seven to 10 years, so the effects are more long-lasting than others in this article.
What you can do to resolve or prevent it:
- Obtain your full credit report and identify any concerning items.
- Bring past-due accounts current as soon as possible.
- Contact lenders/collectors to attempt negotiation or to request a courtesy removal.
A mistake or fraud on your credit report
Sometimes the answer to “Why did my credit score drop?” may be as simple as an error in your credit profile. Accounts you don’t recognize, incorrect entries, identity theft, all of these mistakes can drag your score down unexpectedly.
Why this matters for homebuyers:
If you’re in the middle of a home purchase and a strange entry appears on your credit report, that could derail your loan approval, at no fault of your own. Underwriters may ask for explanations, and dealing with disputes might delay closing.
What you can do to resolve or prevent it:
- Regularly check your credit report and review it carefully for any unfamiliar accounts, balances, names, or addresses.
- Immediately dispute any errors with the credit bureau and monitor the status of your dispute.
- If your dispute is unresolved, request that a statement of the dispute is included in your credit report, in order to provide context for any negative marks caused by errors. You can also ask the credit bureau to provide the statement to anyone who recently requested your report.
- Consider placing a fraud alert or even freezing your credit card if you suspect identity theft.
Why is the timing of credit behavior important for homebuying?
When you’re planning to buy a home, timing is everything in terms of your credit profile. Mortgage lenders will typically review your credit report at multiple points in the process, including when you apply for the loan and just before the loan closes. Because of this, any unwelcome surprises between application and closing can cause issues, such as a delayed closing, higher interest rate, or even loan denial.
To avoid having to ask, “Why did my credit score drop?”, it’s helpful to follow a few credit-related best practices:
- Take care of major credit tasks (such as paying off installment loans, opening new credit cards, etc.) well in advance of shopping for a mortgage.
- Avoid large credit card charges right before applying for a home loan. If you do have to make a big purchase, be sure to pay the balance off as soon as you can.
- Monitor your credit reports on a regular basis. This will help you spot any issues or errors before your future lender does.
- Once you’ve applied for a loan, keep an open line of communication with your lender. If you anticipate a change in your credit, let your mortgage company know ahead of time.
- Understand that small changes happen. A slight dip for an easily identifiable cause doesn’t have to be detrimental. What really matters is why the change occurred and how you address it.
To wrap it up…
Buying a home is one of the biggest financial decisions you’ll make, and your credit story plays a major role in how that decision might go. A drop in your credit score can feel like a setback, but your response to that change can turn a potential catastrophe into just a small bump in the road. When you understand the why behind “Why did my credit score drop?”, you can take intentional steps to correct it and prevent the same issue from happening in the future.
Take a peek at our Homeward™ blog for other articles on managing your credit score during the homebuying process.
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Applying for a mortgage soon? Our 8 Credit Score Management Tips could help put you on the path to better rates!
