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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:
- 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 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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