Mortgage Loans

Guaranteed Rate Vice President

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March 1, 2012 Posting:

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The credit scoring or “credit risk scoring” is a system that was developed in the early 1990’s.   It was adopted by the mortgage industry around 1994.  The stated purpose was to enable third parties to statistically judge your ability to repay your debts.

Since then some lenders have developed their own systems and software.  Most, however, most rely on a company by the name of Fair Isaac Co.  The result is more commonly known as the “FICO score”.  This company has leased its software to the large credit bureaus so they can process all of your credit data they have collected from your creditors through the formula to produce a number that is a snap shot of your ability to repay your debt. Scores range from about 400-900 with a lot of attention to the 600 range.  A 640 score is loosely recognized as an acceptable “A” grade.

A score greater than 740 doesn’t appear to offer any additional benefit to borrowers. Fair Isaac’s formula is a black box, relatively unknown to its users who generate your credit scores. However, this formula has SO MUCH power over all of us as consumers that as time moves on, peeking into the black box is slowly becoming a reality.

Industry participants are now required to disclose scores to clients, and computer models allow them to speculate on improved scores resulting from minor changes to specific elements of the credit report.   The Fair Isaac formula, with over 35 different variables will never be disclosed to the public for obvious reasons.  

THE FOLLOWING ARE MANY HELPFUL SUGGESTIONS TO INCREASE YOUR SCORE!

FACTOIDS:

1.  It is important to know occupation, income and length of time in present home are not used in creating a credit risk score.

2.  Industry experts reveal different categories of credit are given different weights or impact in creating a credit score.  Late payments, collections, bankruptcies, charge-offs, and tax liens are 35% of the score.  Length of credit history is 15% of the score.  Types of credit, such as the existence of finance companies, are 10% of the score. Inquiries (applications for new credit) are as much as 10% of the score; this area typically generates the most interest from consumers.

3.  Elapsed time since a credit account was opened is important. Longer is more desirable.

4.  Primary indicators in a credit report are severity, frequency and more recent a delinquencies.   The last 24 mos. of history is where the focus lies.  Regarding public records of debts, the older and more isolated the occurrence is, the less the risky it is perceived.

5.  The formula does not subtract for late payments after a grace period but paid before 30 days delinquent. This event goes “unreported” to the bureaus.

6.  The more recent the delinquency, the greater the impact is on the score.  For example, a 30-day late payment that is only one month old indicates a higher risk than a 30-day late made 3 years ago.  Current, delinquent payments hurt the credit score dramatically. Stated alternatively, a borrower who has missed a couple of payments in the last two months would be a higher risk than someone with much older. 

7.  EXPERTS ADVISE YOU SHOULD CHECK THE DATE OF THE “LAST ACTIVITY” ON COLLECTION AND CHARGE OFF ACCOUNTS.  THE STRATEGY IS TO PAY OFF OLD COLLECTION ACCOUNTS, CHARGE-OFFS AND JUDGMENTS in escrow, NOT BEFORE closing. This prevents bringing an old derogatory account “current” and making the score even more negative. Credit computer models tend to score from date of last activity.

8.  Every possible effort should be made to keep credit balances 30% or less of the maximum allowable credit.  It is better to leave the balances on existing cards, if the balances are low relative to the limit. It would be a mistake and lower the score to transfer several cards to one “low rate” card thereby utilizing the new card’s full credit limit immediately.

9.  However, industry experts report they have witnessed borrowers close out unused accounts with zero balances and immediately (i.e. within 30 days) gain 3points for each account closed.

10.  Are there INQUIRES on your report - A golden rule is:  don’t have any creditor run your credit unless you’re seriously considering doing business with that company.  Several inquiries across several product categories over a period exceeding 30 days, tends to be viewed negatively. Borrowers are discouraged from applying for revolving credit and a car loan at the same time as you’re applying for a mortgage loan!  Repeated inquiries can cost the borrowers 2 or more points off their score depending on other variables. Estimates of the effects average 3 to 35 points.  Fair Isaac also discloses that multiple inquiries contribute less than 10% of the weight of the score.  Typically only 5-7 inquiries count in the total score of the consumer.  Inquires in excess of 7 may not further depress the score.  Inquiries for the purpose of marketing strategies and offers by a bank, pre-approved credit solicitations, or for managing existing accounts are not used to calculate the credit score.

11.  Because of similarity in names, applicants should enter the borrower name exactly as it appears on the social security card. Refrain from hyphenating the name – just use it as another middle name without the hyphen. Always use the suffix (Jr., Sr., II, III, IV) if there is one.

12.  Before applying check bankruptcy papers, if applicable to see the debts discharged and if accurately reported on the credit report as part of a bankruptcy.