Question: What is a credit score or, FICO score, and how does it effect my borrowing ability?
Answer: There are three major repositories that track your spending through your personal and/or business lines of credit. Experian, TransUnion and Equifax each utilize their own unique process of risk evaluation to determine your personal credit risk score based primarily upon how you are managing your credit lines as well as numerous other factors. Fair, Isaac & Company (FICO) developed the model system now used by Experian. TransUnion uses the Empirica model and Equifax uses the Beacon scoring model. Scores range from 0-1000, theoretically. The practical range is from 400-850. Lenders will generally use the middle of the three scores, not the average score, to determine your eligibility for a particular loan program
Conventional lenders that sell their loans to FannieMae and FreddieMac, the two major securitizing corporations that guarantee loans for conventional lenders, generally require a middle score of about 620. (Mortgage lending is more a business of exception than rules, but most conventional lenders do not make exceptions for lower credit risk scores.) A conventional loan is defined as a loan amount not greater than $322,700.00 with ‘conventional’ income, employment and asset verification. Conventional loans generally have the best pricing. They may be fixed rate loans, balloon notes, or adjustable rate mortgages. Many conventional lenders now also offer second mortgages, home equity lines of credit (HELOC’s) and alternate documentation loans that get sold to what is known as the “secondary market”. More on the secondary market later.
Now back to the scores. A score from about 680 to 720 is considered favorable and allows for more creative or, “alternate documentation” loan submissions at still favorable pricing but slightly higher than conventional loan rates. Commonly referred to as “stated income” where the income is stated on the application but not verified by the underwriter. If you are self-employed and have extensive deductions on your returns you may not have sufficient income documentation to qualify for the best rates and terms so keep those scores up! Scores at 720 and higher allow for reduced documentation or, even no documentation, to verify income, employment and assets.
Conventional automated (electronic) underwriting systems now approve many purchases and “no cash-out” refinances with no income verification required even if you are not self-employed based on the higher end of the favorable credit scores and the total loan amount relative to the purchase price. Don’t expect that level of approval for a purchase unless you have at least twenty percent down payment. For refinances it’s hit or miss but you will not get such an approval with a request for cash-out. That rule has virtually no exceptions!
How do you keep your scores up? What happens if your score is just out of the required range for the loan program you need? Stay tuned for Part Two for the answer!
If you just can’t wait for more information, then please feel free to call me, Gary Miller, at 505-982-9530. Or, call toll free 877-982-9530 if you’re out of the area.
Continued in Part Two
