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FICO Scores and Your Credit...

FICO Scores and Homeownership:

Now that you have made the decision to purchase a home, you will have to obtain the financing required to purchase a home. To acquire a home loan, you will have to start applying for a home mortgage loan. There are numerous mortgage plan packages available for various terms, but before choosing a mortgage plan that is advantageous to you, there’s the whole process of being approved for a home mortgage loan.

Therefore, when you’re applying for approval for obtaining a mortgage loan, you will invariably have to deal with credit scoring. Credit scoring refers to a sophistical mathematical model that outlines a loan applicant’s credit behavior and the credit behavior of other borrowers. Loan sources use this form of analysis as a way to improve their accuracy in determining the credit risk that each potential lender has.

Despite the fact that there are numerous methods of credit scoring, the most popular form of credit scoring is FICO scores. FICO scores is a mathematical credit scoring model that was created by the Fair Isaac Credit Organization (FICO). Similar to other credit scoring models, FICO scores produce an output that measures a lender’s ability and likelihood of paying their bills on time. It produces this numerical score by examining such fiscal determinants as:

Credit history Income levels Outstanding debt Debt utilization history Access to credit
A FICO score is a numerical value that ranges between 300 and 850, with the low end of the scale representing a poor credit risk. Loan sources then use this FICO score to determine whether or not a prospective homebuyer is eligible to receive a home mortgage plan in the first place and then use this same score to establish the number of mortgage plan options that is accessible to the prospective homebuyer. Many loan sources point to a FICO score of 620 as the cutoff point for loan eligibility. Any FICO score lower than 620 does not automatically preclude a prospective homebuyer from obtaining a home mortgage loan, but they are usually only able to acquire a mortgage loan from the private sub-prime market where mortgage interest rates tend to be higher due to the credit risk represented by the borrowers.

Before you become intimidated before applying for a mortgage loan due to the importance of the FICO score, it may aid you if you understood what makes up a FICO score. According to the Fair Isaac Credit Organization, their FICO scores are made up of these components:

Payment histories on a prospective borrower’s credit history make up 35% of the score. In the interest of fairly analyzing a borrower’s credit worthiness, FICO scores weigh recent credit history more heavily than credit actions that took place in the distant past. An additional 30% of the FICO score is based upon the amount of debt that a prospective borrower has outstanding with all creditors. The length of time that a borrower has been a credit user makes up 15% of the FICO score component. As a rule, it is better as a borrower to have a longer history as a credit user if they also have a history of making timely payments. Another 10% of a borrower’s FICO score relates to the borrower’s very recent history. This component analyzes the effort that the borrower went through to obtain loans or credit lines in the previous months before applying for a home mortgage loan. An analysis of a borrower’s credit makes up 10% of their FICO score. The score reached from this component comes from the mix of credit that the borrower holds such as installment loans (car loans), leases, mortgage, credit cards, and other forms of credit.
In addition to the breakdown of how FICO scores are accumulated, it should be noted that there are some factors that will negatively affect a person’s FICO scores. These include:

Delinquencies An excessive amount of accounts opened within the previous twelve months before applying for a home mortgage loan. Short credit history. Reaching close to maximum limits on balances on revolving credit. An absence of recent credit inquiries. Public records (ie. tax liens, judgments, or bankruptcies). No recent credit card balances.
In recent years, FICO scores and other forms of credit scoring have taken on greater importance. Previously, loan sources determined the credit worthiness of a borrower solely on the past payment history of the borrower. However, studies were conducted that measured the correlation between credit scores and mortgage delinquencies. Based on these studies, lenders discovered that there was a definite relationship between a borrower’s credit score and the likelihood of the borrower being ninety days delinquent at least once during the span of their home mortgage loan. These studies have shown this relationship between a borrower’s FICO score and the likelihood of a ninety day delinquency:

Fico Score: Odds of a delinquent account 595: 2.25 to 1 600: 4.5 to 1 615: 9 to 1 630: 18 to 1 645: 36 to 1 660: 72 to 1 700: 288 to 1 780: 576 to 1
As a result of these studies in the relationship between credit scores and potential delinquencies on home mortgages, lenders are now trying to fun loans with rates, fees, and terms that precisely match with a borrower’s delinquency risk.

Due to the increased reliance on FICO scores and other forms of credit scoring, there have been changes in the home lending industry. As a result of FICO scores, the sub-prime lending industry has developed. This source of lending revolves around making loans to borrowers that do not have the best of credit. Additionally, loan sources have credited the use of FICO scores to reduced delinquencies. This has allowed borrowers to use the extra credit that is now available to them to fund more home mortgage loans. Homeowners also credit FICO scores to improving their ability to obtain a mortgage. This is because FICO scores provide a definite mathematical output that enables lenders to make loan approvals quicker, simpler, and more convenient for a variety of loans.

However, FICO scores and credit scoring have taken away the ability of prospective homebuyers to leverage more advantageous deals among lenders. This is because prior to credit scoring, borrowers were able to view the results of the underwriting process from one lender and search for better deals among different lenders. As a result of this widespread reliance on credit scores in determining credit worthiness by lenders, prospective borrowers are unable to leverage their credit status for a better mortgage loan plan. This is because FICO scores are usually not released to the borrower. It is sometimes possible for a borrower to obtain a credit report that contains their FICO scores but this service is not free.

As a result of FICO scores, things have changed when it comes to obtaining a mortgage loan. Many of the resulting changes caused by FICO scores have been positive and some have been negative, however, it is important to relate to the reader that FICO scores are not the sole determinant over whether or not they are able to obtain a home mortgage loan. Rather, the results of the FICO scores make up guidelines that allow the loan source to determine what mortgage loan programs that the borrower is eligible for, if at all. Therefore, if you have a low FICO score, you shouldn’t overly worry as your loan source’s underwriter will look at other factors before determining what mortgage loan you may be eligible for. These factors include:

Large down payment made on the home. Low debt-to-income ratios. An excellent proven history of saving money. Reasonable explanations for factors found within their credit history that has negatively impacted their credit score.



 
 
 
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