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April Is National Fair Housing Month
Home Buying credit scores: Every Lender Wants to Know Yours.
"Scores" or "FICO® scores" are X-rays of your paying abilities so lenders turn to it to have a peek on your “paying images.”
The Internet is brimming of buzz about it. Almost a week does not go by that I do not hear it mentioned on the radio or TV.
I am quite sure that you have too.
I am also sure that for you, like it used to be for me, the information is all convoluted to the point of making me dazed... until I took the time to study it.
So let me explain the basic points that you need to know to make sense of it.
But what really is FICO Score?
Very simply put it is an algorithm formula that tries to predict how much of a risky you may represent to the lender… Given what is known in your credit report, at this point in time, how likely you are to pay back the amount you borrowed.
In the good ol’ days each person used to be know to the entire village so it was easy for you to approach to grocer and “ask for a line of credit.”
As population grew, things got a little more complicated to do business on the basis of personal knowledge of an individual by the lender.
At same time businesses became more sophisticated, they also became national companies – international, even.
So extending credit to someone needed to have a “new approach.”
Most lenders “report” your “buying activities” and, maybe even more important, your consequent “paying pattern,” to credit bureaus.
If you pay on time it gets noted “on time” …If you are ever late, that’s how it gets reported.
Then the “credit scores model” computes all the info it finds in your file and give a weight to each section. Please see “How does it work?" below
If you pay on time, the “model” will assume that, in the future, you will treat your obligation in likely fashion… On the contrary, if you make your payments late, guess how the model will predict you will pay? (Duh!)
A “credit score” is a number representing your credit worthiness in the market place, it gives some measure of the probabilities that you will repay your debts. (Please see more about this below The FICO Score Range ).
Lenders, such as banks, car companies and credit card companies - and, reportedly, insurance companies, use credit scores to evaluate the potential risk posed by lending money to each consumer.
A score is supposed NOT to consider race, sex or ethnicity, it is generally regarded to be the most fair and objective underwriting tool at the lenders’ disposal.
How FICO® Score Came To Be
Please notice that I have mentioning “credit scores” and “FICO® score” intermittently as if they were the same thing…
Well, they are “slightly” different.
There are different kinds of credit scores out there and they are not all created equal. However, to keep our discussion focused, let’s ignore all others and concentrate on FICO® for one simple reason: It is the only one the lenders really pay attention to!
It is the 800lb gorilla in the room!
Fair Isaac Company is the mastermind of FICO® score.
They hold to the upwards of “100 patents for predictive analytic.” And they are a $1 billion company.
So, for our mutual understanding, whatever “score” I mention here, understand that I am referring to FICO® score.
How Do Credit Scores Work?
FICO® Scores are calculated based on different credit data in your credit report. This data is grouped into five basic categories.
It is almost like figure skating - you receive points for different parts of your credit records.
Here is how FICO® score is known to distribute the weight in each category and in a nutshell what you should know and be watchful about:
35% Payment History - Mostly how promptly you pay your bills. It is of your best interest to pay a few days early or, in worst case scenario, on time.
30% Amounts Owed – The most important thing here is to maintain a ratio below 50% of your credit lines. Some people say 30% max – I would say that is “nuts.”
In any case it is important to have a reasonable number of lines of credit given your abilities to pay and watch not pass that 50% total. If you do, try to pay some off especially the ones you are carrying a higher balance.
15% Length of Credit History - The long you maintain a revolving account such as credit cards, retail store you will points in this category.
Do not close and account around the time you are planning a major purchase like a car or… a house!
10% New Credit - They look at new credit with some suspicious – each time that you apply for credit, they lower your score a notch or two.
It is very important to know that when you are thinking for home buying loan you should not apply or buy any other major purchase.
10% Type of Credit - It is a good strategy to have different types of line of credit – such as 02 or three major credit cards – never more the 04 major credit cards. Two or three major store credit cards and, for a good measure 02 gasoline cards because everybody needs them.
Equation To Think With Your Wallet
Obviously I am concerned here with the occasion that you will be looking to finance a house.
After you secure the purchase of your home – I mean after you close – it is open season.
However, your FICO® scores affect interests on all major purchases.
Think this way: It is the reverse proportion.
Higher scores equal lower interest
Lower scores equal high interest.
I know which one you will choose.
I know that there might be occasions when a couple will need to finance two cars. If so, please try not do it all at once.
If you do, I can guarantee that you will pay a higher percentage rate. It possibly can be large enough that it may cost as much as the value of the car, during the life of the loan. All right I am exaggerating a bit here – just to call your attention.
Now that I grabbed your attention, please consider this: Have you ever seen those car dealer ads for 0% financing?
They are notorious to pull people into their stores, while there, they will tell you that, well, your “credit score is not perfect, but you will still qualify for this much percent rate” …Does not matter how you shake it will be ways more than “zero” that lured you in, in the first place.
So please start thinking with your wallet: do you major purchase when your credit scores are high. You will be able to buy what you want at a savings of $1,000s of your hard earned dollars.
It will be a well-deserved savings because you have responsible with your credit and wise on how to use.
How about those of you with “plenty of money” why should you care?
Well, I do hope that, in this situation, you have taking great care of your credit and your scores are really high.
I again congratulate you and your savings are equally deserved.
…And there will be plenty more money left, that you can donate to your favorite charity!
My point is that “moderation” carries the day! If you go too deep you will be throwing the whole formula out of balance!
…And lender will charge you higher rates.
The FICO® Score Range
The people who invented the FICO® score say that the range goes between 300 to 900 points. Again I will not discuss here the reasons behind it.
But here is some food for thought: it seems that simple fact the anyone exists already gets some points to begin with …on the other side of the spectrum not even Oprah, Bill Gates or Warren Buffet are granted credit sores of 1,000 …actually they say that nobody goes beyond 850
300-580 = very poor
581-619 = poor
620-680 = fair
681-720 = good
721-850 = excellent
TransUnion®, which is one of the three leading credit bureaus, have conducted a research studying about two years of the payment pattern of the consumers covering various groups in the FICO® score range.
Here is what they were able to notice “the delinquency rate is the percentage of borrowers who reach 90 days past due or worse (such as bankruptcy or account charge-off) on any credit account over a two-year period.”
FICO scores up to 499 = 87%
FICO scores up to 500-549 = 71%
FICO Credit scores up to 550-599 = 51%
FICO scores up to 600-649 = 31%
FICO scores up to 650-699 = 15%
FICO scores up to 700-749 = 5%
FICO scores up to 750-799 = 2%
FICO scores of 800+ = 1%
They also observe that it "clearly illustrates the predictive power of the FICO scores, which is why lenders rely on them for credit decisions."
Other observation they made is that people who get behind once, very likely will be behind again.
What do credit scores mean for the lender?
Borrowers with higher credit scores are more likely to pay back their loans / revolving credit cards.
The lender “is happy” and, therefore, the lender is willing to lend at lower rates and better terms because the credit risk decreases as you go up in your scores.
What do credit scores mean for you?
You should pay close attention to “how the wheel turns” as I have described in this page and make sure that your credit scores are as high as you can be and you will receive “lower rates and better terms.”
Therefore, you will be happy!
The other day I read on the Chicago Sun web page that 80% of people
have some wrong information in their credit reports. That can seriously
affect your home buying credit scores. Please do a regular monitoring on
what the bureaus have on you for free. My page “Free Reports” shows
how to do it. Please click here.
What Do Credit Scores Have To Do With Home Buying?
Ways more than the majority of all home buyers think.
Here is one perfect portrait:
Once I was working with a lady who was planning to buy a house. She had previously been pre-approved for a home loan of $220,000.
We found a house that she and her husband really fell in love with and they put an offer for $210K that was accepted by the seller.
Around the same time she went to her car dealer for a “scheduled maintenance” of her car she was still paying.
While there she confided to her car salesman that her credit was really good and she had just been pre-approved for her home loan...
And she went on to tell the car salesman that her husband’s was in sore need of a new vehicle.
Not to be outdone the “good” car salesman asked her permission so he could to “pull her credit report…”
Oh, he said after looking at it, it was excellent and actually she could carry two cars …and so she bought her husband a new car right there and then…
But she did not stop there; she also decided to buy new furniture to take to the new house she was going to move to…
That all threw her FICO® score out of balance in different ways:
New credit, ratio of line of credit with large purchases…
Well, the home lender revised down the amount they would be willing to lend her at that point in time to $130,000…
We tried different home mortgage companies and we received similar outcomes…
Final result, that person was not able to buy the house she already had secured a contract on and she also had been pre-approved for a home loan.
Lenders look at your credit scores very closely because a situation such as the one I just described greatly increases the possibility of default. You or your spouse can loose your job, someone in the family can fall severely ill… Oh, did I mention “economics downfalls?”
There are many other aspects that can be brought to discussion but I want to keep the practical aspects of this site is the bottom line.
TIP: 620 Mid Score
Each of the 03 major credit bureaus interpret the FICO® scores on their own way. Therefore you have three different scores.
Home lender always based their decision not on the highest, not on the lowest: The middle one is the “charm”
Since April-May of 2009 the minimum mid FICO® score to attain a home loan is 620.
Rest assured that the higher your FICO® scores go, the better rate you can get. Again, if consider the life span of the loan, it can mean savings of thousands of dollars
TIP: No free credit (FICO®) scores
I have written more extensive on a page about how to get “free credit reports”
However there is no free credit (FICO®) scores – sometime you pay less than $10 – but it is still paid.
Also be aware that you need all three major bureaus to really have a complete picture where you stand. Just one will not do!
Home buying credit scores will affect even those first time home buyers seeking grants. There are $10,000s to distribute in assistance but they will look on the recipient scores before they decide to give it out. Please click here “Home Grants” to read more.
Credit check is but one of the ten most important steps that will lead you to a successful purchase of your new home!
Please follow these links to learn more about the other nine step:
Now it is YOUR turn: Please give us your input!
Do you have some great comments on this topic you would like to share? Any question burning on your head? I would love to publish
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JC Fagundes, Head Broker
EQUAL SERVICE TO ALL.
Residential. Commercial. Investments.
Ph: 404 801 4141