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Your Credit History

The second question that lenders must ask is ''Have you repaid your past debts in a timely fashion?” To find this answer, the lender orders a mortgage credit report from a local credit bureau. A credit bureau collects information from retailers, banks, finance companies, mortgage lenders, and a variety of public sources on all consumers who use any type of credit – credit cards, car loans, mortgages, personal loans, and charge accounts. The information collected is stored in nationwide credit repositories. Credit reports can be generated from credit repositories in minutes for a minimal cost. These reports, also known as in file reports, may not always

FIGURE 2.4 VA Residual Income Qualification Example

VA Residual Income Qualification Example

contain the latest information on your credit standing. Computers track payment histories on more than 200 million accounts.

Credit scoring. Today, the most important factor in determining an applicant's creditworthiness is credit scoring. A credit score is based on a statistical analysis of your credit history, and it is generally included as part of your mortgage credit report. It is called your FICO score, and the methodology for scoring was developed by the Fair Isaac Corporation. The FICO score ranges from 400 to 900. The higher your score, the better your credit rating. Borrowers with a credit score over 750 are very unlikely to default on a mortgage. Borrowers with a credit score of less than 600 are far more likely to default on a loan, and those with a low credit score will have to pay more for their mortgage, more discount points, and higher rates.

The factors that go into determining your credit score are:

• Your history of past payments (including public records that pertain to your credit: bankruptcies, liens, lawsuits, and judgments)

• The amount of outstanding credit that you have (the balances on your credit cards and other loans compared with the credit limits for those loans)

• The age of your open credit card and charge accounts

• The number and type of recent credit inquires that have been made into your credit data that suggest that you are seeking additional loans or credit cards

• The mix of different types of credit that you have outstanding (car loans, charge cards, mortgages, etc.)

The relative importance of these factors in calculating a FICO score is shown in Figure 2.5.

It is very important to know how good your credit score is before you apply for a mortgage. You often see ads offering to sell you a copy of your credit report, but the report does not always include a copy of your credit score. You can get a copy of your credit report, credit score, and full description of the factors that were instrumental in determining your personal score on the Internet at

FIGURE 2.5 Factors That Determine Credit Score

Factors That Determine Credit Score

myfico.com. This Web site also has a very complete description of credit scoring written for consumers.

The charts in Figures 2.6 and 2.7 show the national distribution of credit scores and the likelihood of serious delinquency by credit score.

Borrowers with scores less than 600 have a 50-percent or greater chance of being 90 days late on at least one of their loans over a two-year period. On the other hand, borrowers with scores over 700 have less than a 5-percent chance of being 90 days late. Credit scores are very accurate predictors of future delinquencies, and this is why your credit score is so important when you apply for a loan.

If your credit score is 680 or above, it is considered good and will not be a problem when you apply for a mortgage. If your score is 700 or more, you might even get a small price break on your loan. If your score is between 620 and 679, you may have to pay a bit more for your mortgage, especially if your LTV ratio is more than 80 percent. If your score is less than 620, you will definitely have to pay more for your mortgage, and if it is less than 600, you may not be able to get the loan that you want.

FIGURE 2.6 National Distribution of FICO Scores

National Distribution of FICO Scores

FIGURE 2.7 Average Delinquency Rate by FICO Score

Average Delinquency Rate by FICO Score

You can raise your credit score. If you have had a history of late payments, liens, repossessions, and other serious credit problems, it takes a few years of spotless credit to raise your score, but the following actions can help:

• Make sure that all of your accounts are current, and do not miss any payments. liven if you only pay the minimum amount, that is much better than skipping a payment. The longer that you stay current, the better your score.

• Pay down your credit card debt. If you have too many credit cards, it lowers your credit score. Do not get cards that you do not need, but do not close out cards that you do not use; that will not lower your score. Do not move debt around. Pay down your accounts so that no account is greater than 50 percent of the credit limit for that account.

• If you are a new borrower, do not open several accounts right away. Opening new accounts lowers your score. Older accounts raise your score.

• Applying for several loans at the same time causes lenders to inquire about your credit status. Multiple inquiries can lower your score. Ordering your own credit report does not affect your score.

The best way to maintain a good credit score is to use credit responsibly. Do not get loans or credit cards that you do not need. When you do get loans or credit cards, make your required payments on time.

Mortgage credit reports. The credit bureau begins preparing your mortgage credit report by searching the national files and its own files for information on you (and your spouse or co-borrower, if applicable). In addition to searching their existing files, they obtain the latest information about your credit by making inquiries by telephone and letter specific to the information on your mortgage application.

The primary focus of your credit report is your credit history. For each of your bank and automobile loans, credit cards (whether you have used them recently), charge accounts, school loans, leases, and business and mortgage loans, a line of descriptive information appears on your credit report, such as:

• Creditor's name

• Type of account (installment, credit card, charge account, automobile loan, etc.)

• Account number

• Date opened

• Maximum allowable balance, “high” credit balance, current balance and past due amount (if any)

• Required monthly payment

• Payment history

The payment history is of critical importance to your lender's underwriter. For each account listed, it shows how many times you were more than 30/60/90+ days late in making your required monthly payment. It also shows your usual payment patterns, whether you almost always pay on time or are usually late 30, 60, or 90 days. It also reports repossessions, credit workouts, and fully paid accounts.

In addition to reporting on your credit history, the mortgage credit report verifies some of the noncredit information that you disclose on your mortgage application as well:

• Employment history for at least the past two years (employers, job titles, income, if available)

• Residency information for at least the past two years (address, landlord, and rental or mortgage paymentistory)

• Public record information (lawsuits, legal judgments, marriage or divorce, tax liens, bankruptcy, and foreclosures)

Failure to disclose credit problems or answer all of the related questions on your mortgage application fully is a sure way to be rejected.

Although the lender charges you for a credit report as part of your application fee, you do not have the chance to look at your credit report. As mentioned in Chapter 1, you do have the right to inspect a summary of the credit report, challenge any inaccuracies, and request that the credit agencies make corrections. You can get a consumer version from any of the three repositories:

• Equifax, 800-685-1 111, equifax.com

• Experian, 800-311-4769, experian.com/consumer

• Trans Union LLC, 800-888-4213, transunion.com

By law, consumers can get a free copy of their credit report once each year from each of the above repositories. Call (877) 322- 8228 or go to annualcreditreport.com to order them online. The cost of a credit report is about $15 if it includes your credit score. For $45, you can get a combined credit report using data from all three repositories and with the credit scores from each of them. If your credit scores from each of the three repositories are different, most lenders will use the middle score to evaluate your credit. If you believe that there is a mistake in your credit reports, or if you have been turned down for a loan, you can get a free copy of your credit report from any of the above companies.

Most lenders are strict on credit problems. Some do not make mortgage loans to people who have had a previous foreclosure or bankruptcy. Others require two or more years with a clean credit record, following such a major credit problem. If you have had credit problems, disclose them to the loan officer and ask about the lender's policies prior to application.

Many lenders require you to submit a written explanation of any detrimental comments that appear on your credit report. For example, "Explain why you were a month late on two MasterCard payments in the past year,” or "Why did you miss a mortgage payment two years ago?” Although these requests may seem a little picky and may be somewhat irritating, a simple explanation such as “I was on vacation” or “I misplaced the bill" usually will be enough for minor credit discrepancies like these examples.

Moderate tardiness on paying bills usually will not disqualify you for a mortgage. However, when combined with tight qualifying ratios and a small down payment, chronic credit problems may cause lenders to turn down your application. It may cost you additional points or a higher rate.

 
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