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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:
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Delinquencies
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Too many accounts opened within the last twelve
months
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Short credit history
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Balances on revolving credit are near the maximum
limits
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Public records, such as tax liens, judgments, or
bankruptcies
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No recent credit card balances
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Too many recent credit inquiries
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Too few revolving accounts
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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 Decisions --
FICO 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.
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