While our basic interest rates have remained low and steady over the past two years (30 year fixed principle and interest loan has been in the low to mid 6% range with zero points), the “pricing adjustments” from the banks have skyrocketed over the past 6-9 months.  The detail of these costs has never been conveyed to the consumer by the media, for whatever reason.  Maybe the overly-vague and generic term of ‘credit crunch’ fits their needs.

These price adjustments, better known “layering” to the banks and to mortgage professionals, adds costs to the borrowers’ loan and/or rate, depending on the category.  Such categories include pricing penalties for: less money down; taking cash out on a refinance; taking an interest only loan; and most punitively—lower credit scores.  The latter is the biggest change we’ve seen, started around the first of the year—and has grown since.

The best analogy I come up with for loans, relative to credit score, is that we used to be a —> Pass or Fail.  Now, it’s like you’re graded from “F to A+.  For example, a 620 score used to get an automated Fannie/Freddie approval all the time, with decent credit variables and 5% down.  Now a 620 score costs the borrower 2.5 points!!!  Or, if it’s built into the rate, today that would be a 3/4% rate penalty to a borrower’s final rate.  Even if you have a 719 Fico score, you are hit with a .5 fee (or 1/4% rate penalty). 

So if you have a $250,000 loan, a 620 score will cost you $6,250; or a rate 3/4% higher—> which is $150 a month higher with this loan amount.  With a 719 credit score, the adds are $1250 loan costs, or a $41 monthly payment bump.   These are for Fannie Mae and Freddie Mac loans, better known as conventional loans.

On FHA (HUD/Govmt 3% down) loans, there are only price hits for scores below 620.  Borrowers with scores ranging from 580—620 can expect pricing hits between 1% to 3%, usually it’s 1%.  Below is the standard Freddie/Fannie (conventional loans) pricing adjustment grid for credit scores.  Keep in mind, this doesn’t show additional adjustments for cash-out, 2nd home/Investment property, interest only, loan size, condo hits, etc

 Why Your Credit Score Is So Important

The credit scoring model seeks to quantify the likelihood of a consumer to pay off debt without being more than 90 days late at any time in the future.  Credit scores can range between a low score of 350 and a high score of 850.  The higher the score, the better it is for the consumer, because a high credit score translates into a low interest rate.  This can save literally thousands of dollars in financing fees over the life of the loan.                                                                                                                                                             Only one out of 1,300  people in the United States have a credit score above 800.  These are people with a stellar credit rating that get the best interest rates.  On the other hand, one out of every eight prospective home buyers is faced with the possibility that they may not qualify for the home loan they want because they have a score falling between 500 and 600. 

The Five Factors of Credit Scoring

 Credit scores are comprised of five factors.  Points are awarded for each component, and a high score is most favorable.  The factors are listed below in order of importance.

1. PAYMENT HISTORY-35% IMPACT

Paying debt on time and in full has the greatest impact on your credit score.  Late payments, judgments, and charge-offs all have a negative impact.  Missing a high payment will have a more severe impact than missing a low payment and delinquencies that have occurred in the last two years carry more weight than older items.

2. OUTSTANDING CREDIT BALANCES-30%

IMPACT

This factor marks the difference between the outstanding balance and available credit.  Ideally, the consumer should make an effort to keep balances as close to zero as possible, and defiantly below 30% of the available credit limit when trying to purchase a home.

 3. CREDIT HISTORY-15% IMPACT

This portion of the credit score indicates the length of time since a particular credit line was established.  A seasoned borrower will always be stronger in this area.

 4. TYPE OF CREDIT-10% IMPACT

A mix of auto loans, credit cards and mortgages is more positive than a concentration of debt from credit cards only.

 5. INQUIRIES-10% IMPACT

This percentage of the credit score quantifies the number of inquiries made on a consumer’s credit within a six month period.  Each hard inquiry can cost from 2 to 25 points on a credit score, but the maximum number of inquiries that will reduce the credit score is ten.  In other words, 11 or more inquiries within a six month period will have no more impact on the borrower’s credit score.  Note that if you run a credit report on yourself, it will have no affect on your score.

Remember that the credit score is a computerized calculation.  Personal factors are not taken into consideration when a credit report is generated.  It is merely a snapshot of today’s credit profile for any given borrower, and it can fluctuate dramatically within the course of a week.