Vail Daily column: New credit rules will help many, but not all homeowners
To be a good loan originator, one has to be very good at dealing with change because mortgage rules are a constant whirlwind of hundreds of new rules and even more interpretations of those rules.
The latest changes announced will be effective the middle of 2016 and impact credit requirements to get a mortgage loan. Currently, mortgage lenders are required to use an approved scoring model that generates a credit score for each borrower called a FICO score (named after the Fair Isaac Co. who developed the model and collects a fee every time someone needs a FICO score). But the models in use are about 15 years old, and it’s remarkable that as new technology and research have evolved to determine the likelihood of a consumer defaulting on a credit obligation that nothing has changed. Newer methods of credit scoring have long been considered more accurate than those adopted 15 years ago.
LATEST METHOD OF SCORING
But as everything eventually changes, it was recently announced that starting the middle of next year mortgage lenders would be required to adopt the latest methods of scoring credit, and for most people that will be a good thing.
Current scoring models use a combination of your current obligations in relation to how long accounts have been open (the longer the better) and look at how much you owe in relation to your credit limit (the lower the better) along with several other mystery factors. This allows consumers to manipulate their credit scores somewhat when it’s time to apply for a loan by suddenly paying off or paying down certain accounts. I’ve seen credit scores swing 75 points or more just paying off a few accounts to zero.
This scoring method also ignored that some consumers pay off their accounts every month and then run them back up. Common sense would tell you these are likely better prospects for lending money to than someone who carries large balances every month and only paid their accounts down when it was time to get a good credit score.
The new rules will require using scoring models that look at the consumers past behavior much more in detail, noting credit usage trends over an extended period of time. This will allow borrowers who do pay everything off at least several times a year but continue to run their cards up to collect airline miles or other rewards a step up on someone who runs up a balance and takes years to pay it off.
The new models will also reportedly place less emphasis on small collection items or those medically related that have been settled. Currently a collection involving a $25 overdue library fine is weighed the same as a $25,000 collection for an unpaid judgment. A medical collection that was promptly paid can now sink your score for a year or two, but that is not supposed to happen in the future.
Industry studies show that using more historical data in determining credit scores should result in higher scores for the vast majority of Americans, but there will be those who might also end up with a lower score, particularly in areas like Vail where many people have seasonal income and may live off credit cards for several months a year in between seasonal income.
Also, there is promise that Fannie Mae and Freddie Mac (who provide most of the mortgage capital in the U.S.) will vastly expand guidelines for borrowers with little or no established traditional credit. Reportedly they will consider payment histories on items such as utility bills, insurance and rent as determining if a borrower is creditworthy. This is a promising development for many Americans who are still recovering from the recession, but I would caution I have my doubts about how far reaching this effort will really be given the history of other attempts to allow alternative credit to be considered. This has been tried before and always faded away.
A good strategy to maintain your credit score would be to try and pay off your cards at least several times a year, and go online and try and pay it down just before the account cycles. Your balance is typically reported at the time the monthly statement is generated. By paying it down just before it posts to your credit report, you will establish a history of carrying low balances on your accounts.
Chris Neuswanger is a loan originator at Macro Financial Group in Avon and may be reached at 970-748-0342. He welcomes mortgage related inquiries from readers. His blog and a collection of his columns may be found at http://www.mtnmortgageguy.com.