Jamie Preidt, Branch Manager
MYTHS AND MISCONCEPTIONS OF CREDIT SCORING – PART 1 OF 3
Exit Home Team Realty of Statesville North Carolina in conjunction with Allied Home Mortgage Capital Corporation presented an informational seminar at the Iredell County Public Library this month on the Myths and Misconceptions of Credit Scoring. Lenders have been stingy with their money (to say the least) and now more than ever, you credit score is critical to your financial stability. There are many factors that contribute to your credit score and I would like to share this information with you in a 3 part Credit Scoring series. In this part of the series, we will have an overview of credit scores and two of 10 myths associated with them.
MYTHS AND MISCONCEPTIONS OF CREDIT SCORING
Credit Scoring is a snap shot of your credit file at a specific point in time. It is a statistical analysis and predictive assessment of the likelihood that you will pay your creditors as agreed. Credit Scoring has been in widespread use since the mind-1990s and it is used by lenders to assess their risk when considering lending someone money.
Knowing your credit score and which activities affect it is vital to your financial success. Your score will determine whether or not you can borrow money and at what cost. Therefore, it is important to evaluate and decide if you should attempt to raise your scores before you apply for a loan. You should also consider how this new loan will affect your credit scores.
RISK BASED PRICING
The higher the risk and greater the responsibility the lender must assume, the higher the rate you will have to pay.
FICO credit scores range from 350-850 and the higher your score the better credit risk you pose to the lender. The interest rate you will pay and the terms of the loans you can qualify for are set largely based upon your credit score. When you obtain financing, you are paying the lender for the:
1.) Cost of Borrowing which is their cost of funds plus profit for bringing the funds to you at the retail level. This is referred to as their margin.
2. Risk they assume in lending their funds to you personally. This is known as risk based pricing. These two factors are figured into every loan decision and the individual pricing of each loan granted.
Banks and Lenders are risk takers
Generally speaking, banks are by nature risk averse Banks are experts and very adept at measuring risk. The tallest buildings in most cities are banks because they know how to measure their risk and profit off of that assessment. They are able to predict with a high degree of accuracy how much risk a particular loan presents to their institution. They manage that risk by declining loan applications that do not meet their risk tolerances. They price their margin of profit and set terms to appropriately secure their profits on those loans they do approve. The most common form of securing a loan is through some sort of collateral, such as real property, a boat, or an automobile, etc.
Your Loan will be approved or declined based on your credit score.
Your credit score is just one piece of the overall approval decision. Credit scoring in not underwriting. A loan underwriter will certainly take into consideration your credit score and often it is used to set the interest rate pricing of your loan.
A person’s score is rarely, if ever the only consideration in the approval or denial of credit. In a mortgage loan decision, the lender will look at four main contributing factors when underwriting the loan.
1.) Equity; Your loan to value ratio will indicate how much of the homes value you are borrowing. This is considered carefully in light of your credit history and is adjusted up or down in order to manage the lender risk in the loan. The better your credit score, the more you can borrow against your collateral.
2.) Income; your income to debt ratio will determine your capacity to pay back the loan as agreed. Your job history and how your income is earned will also be considered. Bonuses, commission income, self-employed borrowers, etc. will receive extra scrutiny.
3.) Credit; represents your willingness and historical record of paying your debts as agreed. Your credit history is a reflection of your responsible use of credit and is weighted heavily in the loan pricing and approval of your loan.
4.) Benefit; or use of funds is considered in the loan decision. Lenders today are more concerned about the “net tangible benefit” to their customers. Is the loan going to really improve your situation, solve a financial problem, or further the family’s agenda?
These four considerations plus other compensating factors are all judged together as the underwriter views the whole credit package, in order to approve or deny a loan.
Tomorrow: Part 2 of 3 (8 more myths and misconceptions of credit scoring)
Statesville NC Real Estate, Statesville NC Sonya Leonard of Exit Home Team Realty is your local real estate expert in Statesville North Carolina. Specializing in working with buyers and sellers of Residential homes and land. The Statesville Real Estate Guide provides free access to individualized home searches for all homes in Statesville, Mooresville, Troutman, Lake Norman and the entire Lake Norman Area. Explore buyer and seller reports, community resources, new home communities and be sure to sign up for your personal home search. Let Sonya help you INVEST in Real Estate and you Future!