The First Lady Of Finance®

How people look at credit varies greatly. Some borrowers are concerned if they once had a three-day late on some payment while others consider collections and judgments to be standard with most people.

How lenders look at credit has become much more standardized with the use of FICO^® (Fair Issac and Company) credit scores. Credit scoring is a method of determining the probability that a borrower will repay a debt based on their past credit history.

The lender is looking at three basic areas with a borrower: income, assets and credit. The income tells whether the borrower can afford the payment. Assets tell how a borrower handles their money. To the lender, though, the credit has become the key issue in loans because it basically tells how a borrower looks at their financial obligations.

Sometimes a borrower makes a lot of money but gets sloppy about paying the bills using the “I’m too busy” excuse. They feel that because they had money in the bank and “could have” paid the payment that it’s somehow all right to be late. A lender is more impressed with a borrower of modest means who always pays their bills on time.

In the past a borrower with credit problems who used the “I was young” or “We were having a good time” excuses might have found a sympathetic Underwriter. With the use of credit scoring, however, lenders have found a method of predicting which loans will be good ones with a great deal more accuracy.

FICO^® scores are a number the credit bureau assigns a borrower after looking at around 35 different factors. Each of the bureaus gives the lender a number for the borrower and the lender generally uses the middle score. Scores range from around 300 to 850. Unlike weight and golf scores, the higher the FICO^® score, the better it is. Most conventional loans require scores of at least 620. FHA and VA loans are not using FICO^® scores at this time but the more the statistics support the success of the credit scoring, the more likely it is that they too will start using the FICO^® scores in the future as well.
Good credit has been a matter of pride for some borrowers but beyond that it can financially benefit borrowers as well. Car dealers have been using credit scoring for years which is one of the reasons buying a car was so much easier than buying a house. But what about those 1 and 2 percent loans for cars? Are they for everyone? No, they are for borrowers with good credit. Borrowers with credit problems pay increasingly higher interest rates on their cars depending on how bad the credit problems are.

Depending on how low the FICO^® scores are, homebuyers may also need to pay higher interest rates as well. Some loan programs like 103 percent loans can require scores as high as 700.

What are these scores based on? The scoring takes into account a number of things in addition to the very obvious ones of bankruptcy, foreclosures, collections, late payments and judgments. Having too much or too little credit can be a problem. A borrower may have zero balances on all their accounts but have high limits that would allow them to charge up as much as $100,000.
High balances on all of your accounts can count against you even if they are all paid on time. Too many open accounts are a problem as well. Some borrowers can have 45 to 65 accounts without realizing it. The reason is that when you buy a washer or computer or piece of jewelry, most people don’t close out the accounts when they are paid off. Calling isn’t enough nor is cutting up the card. Some borrowers have added a lot of accounts by moving balances from one account to another in order to take advantage of low introductory 6-month rates. If they are not closed out in writing, these open yet unused accounts can count against you.

Some people feel they can avoid credit problems by only paying cash for everything but if a borrower has no credit history, the lender has no way to determine how they handle credit.

How old accounts are is important too. Opening three new accounts won’t help get a score until they are at least six months old so the bureaus have a number of months to review.

Time is a big factor in credit scoring. For instance a late payment three years is not given the same score as one three months ago. Typically collections and judgments are required to be paid off.

A borrower may have thousands of dollars worth of unpaid collections and judgments but feel their credit is better off because they didn’t file bankruptcy. That isn’t always the case. With reestablished credit a borrower may be able to some loans two years after the discharge of a bankruptcy and a conventional loan four years after the discharge of a bankruptcy. The key is to reestablish credit. Borrowers should also send a copy of the discharge papers along with the schedule of debtors released to each of the three major credit bureaus. Once this is done, the credit report will only show a few lines stating that there was a bankruptcy and when it was discharged.

It is all too easy to get credit cards these days and even easier to find things to put on them. Remember though that you are painting your own credit portrait when you buy on credit and that portrait will stay with you and affect your ability to buy cars and homes now and in the future.