You may have heard of credit scores and wonder what they are. How
do they affect your ability to get a loan? How do they affect the
interest rate and points you have to pay? You may wonder whether
your credit score is accurate. Understanding your credit score and
how it effects you can save you a significant amount of time and
money when entering a Real Estate Transaction.
What Is A Credit Score?
When lenders evaluate your loan application – a process called
underwriting – they try to evaluate your ability and willingness
to repay your loan. They judge your ability to repay by looking
at your income and how stable your past earnings have been. This
helps them to determine if you can afford the loan payments. They
judge your willingness to repay by looking at your past credit history.
Generally speaking, someone who has made payments on time in the
past will probably do so in the future. Lenders want their evaluation
to be as accurate, objective and consistent as possible. To help
achieve these goals, home mortgage lenders recently began using
credit scores to help in the underwriting process. Credit scores
are numerical values that rank individuals according to their credit
history at a given point in time. Your score is based on your past
payment history, the amount of credit you have outstanding, the
amount of credit you have available, and other factors. According
to Fannie Mae and Freddie Mac, two large investors in mortgage loans,
credit scores have proven to be very good predictors of whether
a borrower will repay his or her loan. Credit scores are used to
help lenders evaluate your home loan application. However, a credit
score is just one of many factors lenders consider. Lenders look
at the whole person. Even when a credit score is low, lenders try
to find other factors that could overcome the negative credit issues
and satisfy the underwriting criteria. Most lenders would not deny
a loan application simply based on a credit score. The decision
to approve or deny a loan application will be made based on sound,
flexible underwriting guidelines.
What Is A FICO Score?
“FICO” scores are a type of credit score developed
by Fair Isaac & Company. FICO scores use credit bureau information
to obtain a score which indicates how likely someone is to make
their loan payments on time. Millions of consumers’ credit
bureau records were used to develop score cards, and all of the
consumer data – not just negative information – was
included to develop the system. FICO scores range from approximately
350 to 900. The higher the score, the lower the probability of default
on the loan.
How Can Credit Scores Affect The Price Of Your Loan?
Just as credit scores are one factor in determining if you qualify
for a loan, they may also be a factor in determining the price of
your loan. The price of a loan means the interest rate and the points
charged by the lender. The price charged for a loan will be higher
or lower depending on various factors. Credit scores are used in
determining the price of a loan because they are believed to be
good predictors of a borrower’s ability and willingness to
repay the loan. Therefore, applicants with lower credit scores may
pay higher prices for their loans because of the higher risk of
default and loss on the loan. Many home loans are sold to investors,
and investors will pay a more favorable price for loans they feel
have a low risk of default. Fannie Mae and Freddie Mac, use credit
scores as part of their analysis when pricing loans they buy from
lenders because of this very reason.There are many other factors
relating to an individual borrower’s situation that may also
affect the price of a loan – often even more so than credit
scores. These include: the type of property securing the loan (detached
single family residence, duplex, condominium, etc.); the amount
of the borrower’s equity in the property; the value of the
property compared to property values in the area generally; the
lender’s costs to make the loan; and the type of loan selected.
For example, a loan secured by a single family residence may have
a lower price than a loan secured by a condominium because condominiums
may be more difficult to sell than single family residences. Similarly,
the price of a loan where the borrower has made a 20% down payment
may be less than a loan where the borrower has more equity in the
property and, thus, a greater incentive to make the payments on
the loan.
How Can I Improve My Credit Score?
Because each borrower’s credit score is a reflection of his
or her unique credit profile, it is not possible to quantify in
advance exactly how each item in your credit history impacts your
credit score. No one can tell you, for example how much your credit
score will be affected if you pay off a delinquent account or cancel
a credit card. We do know, however, that there are things you can
do to improve your credit profile. Some of these factors include:
• Making Timely Payments. Making your payments on time is
the best way to increase your score. Delinquencies, foreclosures,
bankruptcies and judgements will decrease your score.
• The Number of Trade Lines. The number of credit cards,
lines of credit and other types of credit (“trade lines”)
you have available will affect your score. If you have a lot of
trade lines, this may decrease your score because of the risk that
you might not be able to pay off all of your accounts, and this
may affect your ability to pay off your mortgage loan. You may wish
to consider canceling credit cards you do not use regularly or choosing
2-4 cards to use and canceling the rest. If you close or cancel
an account voluntarily, it will not have a negative effect on your
credit score. You may wish to reconsider accepting “pre-approved”
offers for credit cards, or if you accept an offer, perhaps you
should cancel another credit card. On the other hand, if you have
no trade lines, this will likely decrease your credit score. Lenders
generally want to see that you have some available credit and that
you can handle your credit wisely.
• How You Use Credit. The amount outstanding on each of your
credit cards will also affect your score. In general, the lower
the amount outstanding, the more likely it is that your score will
be higher.
• Do Not Apply For Credit You Do Not Need. Whenever you apply
for credit, the creditor will obtain a credit report from one or
more of the three credit bureaus. Each credit inquiry will stay
on your record and will affect your credit score. Even if you are
turned down for the credit or change your mind and withdraw your
application, your credit score will be affected. This is because
each inquiry suggests that you are increasing the amount of credit
available to you. Before you give your Social Security Number to
someone, make certain you know how they are going to use it. A Social
Security Number is almost always required to run a credit report.
We encourage you to obtain a copy of your credit report and to review
it for accuracy before submitting your loan application. If you
find any errors, correcting them prior to submitting your loan application
may result in a better likelihood your application will be approved
and also that the time for approval will be lessened. And remember,
when you order a copy of your credit report to make sure it’s
accurate, this will NOT show up as an inquiry on your record.
How To Correct Mistakes On Your Credit Report.
Because credit scores are based upon your credit record, it is
very important that you obtain a copy of your credit report from
time to time to make certain the information is accurate. If the
information is not accurate (for example, someone else with the
same name as yours may have their credit mixed up with yours), you
should immediately take steps to get it corrected. No one can do
this but you. Lenders, credit card issuers and other credit providers
send regular reports about their accounts to the major credit bureaus.
This is where the information on your credit report comes from.
There are three major credit bureaus; you should contact each one
because not all providers of credit report to each bureau. Also,
if you have joint credit (for example, if you are married and have
joint accounts with your spouse), it is a good idea to get the credit
report for each of you because there may be information on one report
that does not appear on the other. If you ask for a copy of your
credit report to check your credit history, it will not affect your
credit score.
You can reach the three credit bureaus at the following
phone numbers:
An Equal Opportunity Company. Please call us at 1-888-817-9797
