FICO Scores and Your Mortgage
FICO Scores and Your Mortgage
Three years ago, credit scoring
had little to do with mortgage lending. When reviewing the credit
worthiness of a borrower, an underwriter would make a subjective
decision based on past payment history.
Then things changed.
Lenders studied the relationship between credit scores and mortgage
delinquencies. There was a definite relationship. Almost half of those
borrowers with FICO scores below 550 became ninety days delinquent at
least once during their mortgage. On the other hand, only two out of
every 10,000 borrowers with FICO scores above eight hundred became
delinquent.
So lenders began to take a closer look at FICO scores and this is
what they found out. The chart below shows the likelihood of a ninety
day delinquency for specific FICO scores.
FICO Score Odds of a Delinquent Account
============ ============================
595 2 to 1
600 4 to 1
615 9 to 1
630 18 to 1
645 36 to 1
660 72 to 1
680 144 to 1
780 576 to 1
If you were lending a couple hundred thousand dollars, who would you want to lend it to?
FICO Scores, What Affects Them, How Lenders Look At Them
Imagine a busy lending office and a loan officer has just ordered a
credit report. He hears the whir of the laser printer and he knows the
pages of the credit report are going to start spitting out in just a
second. There is a moment of tension in the air. He watches the pages
stack up in the collection tray, but he waits to pick them up until all
of the pages are finished printing. He waits because FICO scores are
located at the end of the report. Previously, he would have probably
picked them up as they came off. A FICO above 700 will evoke a smile,
then a grin, perhaps a shout and a "victory" style arm pump in the air.
A score below 600 will definitely result in a frown, a furrowed brow,
and concern.
FICO stands for Fair Isaac & Company, and credit scores are
reported by each of the three major credit bureaus: TRW (Experian),
Equifax, and Trans-Union. The score does not come up exactly the same
on each bureau because each bureau places a slightly different emphasis
on different items. Scores range from 365 to 840.
Some of the things that affect your FICO scores:
- Delinquencies
- Too many accounts opened within the last twelve months
- Short credit history
- Balances on revolving credit are near the maximum limits
- Public records, such as tax liens, judgments, or bankruptcies
- No recent credit card balances
- Too many recent credit inquiries
- Too few revolving accounts
- Too many revolving accounts
Sounds confusing, doesn't it?
The credit score is actually calculated using a "scorecard" where
you receive points for certain things. Creditors and lenders who view
your credit report do not get to see the scorecard, so they do not know
exactly how your score was calculated. They just see the final scores.
Basic guidelines on how to view the FICO scores vary a little from
lender to lender. Usually, a score above 680 will require a very basic
review of the entire loan package. Scores between 640 and 680 require
more thorough underwriting. Once a score gets below 640, an underwriter
will look at a loan application with a more cautious approach. Many
lenders will not even consider a loan with a FICO score below 600, some
as high as 620.
FICO Scores and Interest Rates
Credit scores can affect more than whether your loan gets approved
or not. They can also affect how much you pay for your loan, too. Some
lenders establish a "base price" and will reduce the points on a loan
if the credit score is above a certain level. For example, one major
national lender reduces the cost of a loan by a quarter point if the
FICO score is greater than 725. If it is between 700 and 724, they will
reduce the cost by one-eighth of a point. A point is equal to one
percent of the loan amount.
There are other lenders who do it in reverse. They establish their
base price, but instead of reducing the cost for good FICO scores, they
"add on" costs for lower FICO scores. The results from either method
would work out to be approximately the same interest rate. It is just
that the second way "looks" better when you are quoting interest rates
on a rate sheet or in an advertisement.
FICO Scores and Mortgage Underwriting DecisionsFICO Scores as Guidelines
FICO scores are only "guidelines" and factors other than FICO
scores affect underwriting decisions. Some examples of compensating
factors that will make an underwriter more lenient toward lower FICO
scores can be a larger down payment, low debt-to-income ratios, an
excellent history of saving money, and others. There also may be a
reasonable explanation for items on the credit history which negatively
impact your credit score.
They Don't Always Make Sense
Even so, sometimes credit scores do not seem to make any sense at
all. One borrower with a completely flawless credit history had a FICO
score below 600. One borrower with a foreclosure on her credit report
had a FICO above 780.
Portfolio & Sub-Prime Lenders
Finally, there are a few "portfolio" lenders who do not even look
at credit scoring, at least on their portfolio loans. A portfolio
lender is usually a savings & loan institution who originates some
adjustable rate mortgages that they intend to keep in their own
portfolio instead of selling them in the secondary mortgage market.
They may look at home loans differently. Some concentrate on the value
of the home. Some may concentrate more on the savings history of the
borrower. There are also "sub-prime" lenders, or "B & C paper"
lenders, who will provide a home loan, but at a higher interest rate
and cost.
Running Credit Reports
One thing to remember when you are shopping for a home loan is that
you should not let numerous mortgage lenders run credit reports on you.
Wait until you have a reasonable expectation that they are the lender
you are going to use to obtain your home loan. Not only will you have
to explain any credit inquiries in the last ninety days, but numerous
inquiries will lower your FICO score by a small amount. This may not
matter if your FICO is 780, but it would matter to you if it is 642.
Don't Buy A Car Just Before Looking for a Home!
In conclusion, a word of advice not directly related to FICO
scores. When people begin to think about the possibility of buying a
home, they often think about buying other big ticket items, such as
cars. Quite often when someone asks a lender to pre-qualify them for a
home loan there is a brand new car payment on the credit report. Often,
they would have qualified in their anticipated price range except that
the new car payment has raised their debt-to-income ratio, lowering
their maximum purchase price. Sometimes they have bought the car so
recently that the new loan doesn't even show up on the credit report
yet, but with six to eight credit inquiries from car dealers and
automobile finance companies it is kind of obvious. Almost every time
you sit down in a car dealership, it generates two inquiries into your
credit.
Credit History is Important
Nowadays, credit scores are important if you want to get the best
interest rate available. Protect your FICO score. Do not open new
revolving accounts needlessly. Do not fill out credit applications
needlessly. Do not keep your credit cards nearly maxed out. Make sure
you do use your credit occasionally. Always make sure every creditor
has their payment in their office no later than 29 days past due.
And never ever be more than thirty days late on your mortgage. Ever.
|
