Credit can be confusing. Oftentimes when you are checking or monitoring your credit you will see a different credit score than your lender and you don't understand why. The difference between what we see and what you see can be a difference of upwards of 100 points. There are a variety of different scoring models, each one specific to a particular product. If you're not looking at the correct model for what you're applying for, you could be in for quite a surprise when you have credit pulled. Take a look at the graphic below to gain a better understanding of who uses what and what you should be paying attention to.
The basics.
Credit Scores
It is important to have a general understanding of how credit scores work and affect your mortgage application. Known as FICO scores, credit scores make interpreting credit reports less subjective, and underwriting decisions more uniform. They determine your mortgage eligible and pricing tier. Generally speaking, the higher the credit score, the lower the interest rate. Scores range from 300 to 850.
When your loan officer pulls your credit report, you will receive scores from each of the main repositories, TransUnion, Equifax, and Experian. Regardless of loan type, most investors require a minimum, median credit score of 620.
Although there are over 40-factor codes that determine a credit score, five main categories have the most influence:
- Past Payment Performance (35%)
Making payments on time has the greatest positive impact on a credit score. The more time that elapses after a late payment, the lower the impact on the credit score.
- Credit Utilization (30%)
Having credit and not using it can lower a credit score. Lenders look for three to five revolving credit cards open for at least 24 months. It is a good idea to use and pay them off monthly, or keep a very low balance.
- Credit History (15%)
Maintaining a small balance on older accounts is a good practice. These accounts are the most valuable and should be used about a month before pulling a credit score.
- Type of Credit in Use (10%)
Avoid applying for credit with finance companies as they have a negative impact on credit scores. Based on the predictability analysis of millions of sample files, studies show that people who use finance companies are more likely to have 90-day late payments than any other type of credit accounts such as mortgages, cars, revolving, or installment accounts. Always make it a priority to make all your payments on time, especially mortgages, cars, and student loans.
- Inquiries (10%)
Pulling a credit report impacts a credit score. Too many inquiries can make the difference between approval and denial. Only open new accounts when necessary. When a loan is in-process, only allow your loan officer to pull your credit until your loan closes. While most insurance companies require a credit check before extending coverage, it is considered ‘soft pull,’ and will not affect your credit score. Mortgage companies are required to re-pull your credit within 48 hours of closing. All debts must be similar to the time of application, or loan approval can be revoked. Any new inquiries must be addressed.
Helpful Hints for Better Credit Scores
- Don’t max out credit cards. Keep the card balance less than 35% of the credit limit. A minimal balance is better than a zero balance.
- Don’t close accounts without professional advice. Leverage your loan officer’s experience in determining the steps to improve your score.
- Don’t apply for any unnecessary credit.
- Always pay your bills on time.
- Don’t formally dispute an account on a credit report. If you disagree with a creditor, do everything you can to resolve the issue, even paying off the account. Disputed accounts on a credit report must be settled before loan approval.
- If you pay off a collection account or judgment, keep a copy of the receipt of payment forever. You will likely need it in the future.
Facts About Your Credit
- According to My Fico (http://www.myfico.com/credit-education/credit-checks/credit-report-inquiries/) when shopping for a mortgage, multiple inquiries from mortgage companies in a 30-day period will have little effect on your credit score.
- A divorce decree does not supersede an original contract with a creditor, and does not release one from legal responsibility to repay accounts. You must contact each creditor individually, and seek their legally binding release of your obligation. Your credit history can only be updated after receipt of the release.
- Payment-in-full does not remove your payment history. Accounts paid as agreed remain on your report for up to ten years.
- Accounts not paid as agreed remain for seven years, as measured from the date in your credit file shown as “date of last activity.”
- Collection accounts remain for seven years from “date of last activity.”
- Courthouse Records (Liens/Judgments) remain for seven years from the date filed, with the following exceptions:
- Bankruptcy – Chapter 7 and Chapter 11 remain ten years from the date filed. Credit accounts remain seven years from the date of last activity.
- Bankruptcy – Chapters 13 non-dismissed or non-discharged remain ten years from the date filed.
- Unpaid tax liens remain indefinitely.
- Paid tax liens remain for up to seven years from the date released.
Whether you are considering buying a new home, refinancing your current home or planning for the future, the first step is to check and review your credit with an expert which will allow you to troubleshoot potential problems.
