When a lender is considering your mortgage application, they want to know two things about you as it pertains to your credit worthiness: First is your ability to pay back the loan and the second is your willingness to pay back the loan.
In determining your ability to pay back the a loan a lender will look at your debt-to-income ratio. This is simply the amount of money you earn divided by the amount of money you spend on credit card payments, installment loans, child support and the proposed housing expenses. Although many factors apply, a general rule-of-thumb is that a borrower may use 45% of their gross earnings for the obligations listed above.
In trying to determine your willingness to pay back the loan, a lender will use your credit history and credit score to make that determination. The most widely used credit scores are FICO scores, which were developed by Fair Isaac & Company, Inc. (and they're named after their inventor!). Your FICO score is between 350 (high risk) and 850 (low risk).
Credit scores only consider information contained in your credit profile. They do not consider your income, savings, down payment amount, or demographic factors like gender, race, nationality or marital status. These scores were invented to developed as a way to consider only what was relevant to somebody's willingness to repay a loan.
Collections, late payments, current debt level, length of credit history, types of credit and number of inquiries are all considered in credit scores. Your score considers both positive and negative information in your credit report. Late payments will lower your score, but establishing or reestablishing a good track record of making payments on time will raise your score.
Different portions of your credit history are given different weights. Although there are 3 major scoring companies that weigh various aspects of your credit differently and multiple scoring models within those 3 major models, the majority of consumers have their credit scores based upon the following ratios:
Your credit report must contain at least one account which has been open for six months or more, and at least one account that has been updated in the past six months for you to get a credit score. This ensures that there is enough information in your report to generate an accurate score. If you do not meet the minimum criteria for getting a score, you may need to establish a credit history prior to applying for a mortgage.
Credit scores are so heavily relied upon in the mortgage application process that files are categorized for interest rate pricing based upon credit scores. Most lenders also have a minimum credit score for which they will even consider a mortgage application regardless of any other factors.
It is important to know that a credit score is just a "snapshot" of your credit profile at that moment in time. A consumer may see a wide swing in their credit score from day-to-day. Since a major portion of a borrower's credit score is determined by the amount of credit they are using compared to the amount of credit available to them, a borrower may see a lower score on the day before the credit reporting agency updates the balances on a credit obligation if a borrower has recently made a significant payment and a higher score the day the credit report is updated.
Additionally, a consumer may have an acceptable credit score one day only to see that score drop dramatically the next day because a collection or late payment is reported when the credit reporting agency updates their credit report.
Finally, it is important to know that Cornerstone Mortgage has experts in the credit and collection industry available to help you. Our Broker began his career in the credit industry and we have all of the tools necessary to assist you if you find yourself in a position where your past credit history is creating a problem for you today. Contact us at (209) 578-9000 if you have any questions about credit scores, credit history and how it will affect your mortgage application.