THE MORTGAGE BROTHERS SHOW
What Goes Into Credit Scores and How They Can Affect Mortgages
Tom Knoell: Welcome to the Mortgage Brothers Show. I’m Tom Knoell.
Eddie Knoell: And I’m Eddie Knoell.
Tom Knoell: This is our fourth podcast, and we’re the Mortgage Brothers team here at Signature Home Loans located right here in Phoenix. Today we’re going to be talking about credit and mortgages.
Tom Knoell: Ed, I don’t know if there’s any particular order we need to go in, but I thought I’d start with a macro view of credit, and how they relate to mortgages.
Eddie Knoell: Okay, I like it.
Tom Knoell: That sound good?
Eddie Knoell: That sounds good.
Tom Knoell: It’s really interesting for the historians, just a 10-second lookback. The FICO score is actually named after a couple of individuals, and the individuals … who is it? I think it was Bill Fair and Earl Isaac, actually came up with the FICO score. It was Fair and Isaac and Company. That actually has roots that go back quite a ways, and I always thought that that was extremely interesting.
Tom Knoell: But when we get callers that ask us questions about credit and mortgages, one of the biggest issues we run up against is, “I checked my credit score, and I think it’s this. How does it relate to my mortgage?” I always tell them that there’s basically three different type credit models out there. There’s a consumer model, there’s an auto model, and a mortgage model.
Tom Knoell: They’re all different. They run off of algorithms, but they’re calculated just slightly different. From a big picture standpoint, the mortgage credit score will be different than the auto or some type of credit card consumer.
Tom Knoell: Ed, I don’t know if I missed anything there.
Eddie Knoell: Okay. One of the things I think the audience is very familiar with is Credit Karma, or they’ve logged into their Chase Bank or Discover card, or their Visa, and they have credit monitoring. Whether you’ve gone to Credit Karma … Let’s just take Credit Karma. Those are consumer models, right?
Tom Knoell: That’s right, that’s right.
Eddie Knoell: Those are consumer models. Everyone who calls us and says they have, “Oh, I have a 760 score,” they’re usually telling me that’s what they’ve seen on Credit Karma. What you’re talking about, and what we’re going to discuss, is that is a consumer model, and it’s going to be a different algorithm for the mortgage model.
Tom Knoell: That’s right, that’s right.
Eddie Knoell: I will say that when people call and they are looking, they’ll ask me, “Okay, well, if it’s a 760,” let’s just say it’s a 760 at Credit Karma. A mortgage model is actually, I would say eight out of 10 times, more conservative on the scores, so the scores are usually a little lower on mortgage models. That’s what we usually see. So whenever I pull a credit report and I tell the person, “Well, your score was a 740.” “Oh my gosh, the credit inquiry just hit my … Your credit inquiry has caused my score to go down 20 points.” I have to explain to them how credit inquiries are assessed, and it had little impact.
Eddie Knoell: The point was I’m pulling a mortgage model.
Tom Knoell: That’s right.
Eddie Knoell: The mortgage model may have been right about 740 from the beginning.
Tom Knoell: They actually call that, I think, cluster pulling, where the bureaus actually allow consumers to go out and shop. They say within a 30-day or a 45-day period you’ve got the ability to go out and have your credit pulled several times without it overly impacting your credit score. I always thought that that was interesting.
Eddie Knoell: Okay, but there is another … what do the credit bureaus say, there’s a window of time where you can shop mortgages and it doesn’t affect it, it counts as one inquiry.
Tom Knoell: That’s right, and that would be that 30-day, I’ve also heard 45-day window. There’s a little bit of a debate as to how long that window is. I don’t even know if the bureaus know how long it is. But it’s between 30 and 45. Is that you’re talking about?
Eddie Knoell: Yeah. Two people are shopping for a mortgage, they go to one bank, they go to another, and they’re asking, “Will your inquiry affect my credit score?”
Tom Knoell: That’s right.
Eddie Knoell: You’re right, I have heard what you said, 30 to 45 days. I’ve heard 15 days. I don’t know why we don’t exactly get a straight answer when we research.
Tom Knoell: I’ll tell you that credit, and if you research credit, it’s very difficult to get consistent answers, and I don’t know why. I know that it’s a complicated enough of an animal that … and things may end up changing over the days and weeks and months, so I think it’s hard for people to really keep track of what it actually is.
Tom Knoell: But from a high level credit, we look at mortgage, it’s very, very complicated. We don’t even get into how it’s calculated. A little bit later on in the podcast we’ll talk about what makes up your credit score, but it gets a little bit detailed.
Tom Knoell: Ed, I know you want to talk a little bit about how the actual credit score impacts some of the cost as it relates to getting a mortgage.
Eddie Knoell: Yeah, okay. Mortgages, whenever we price a mortgage or look at mortgage options for loan programs, one of the major components is the credit score. I would say this, there’s the credit score, there’s the loan amount, and then there’s the value of the home. It’s the loan to value, like how much equity is in the home, how much down payment, and the credit score. Really, credit score is one of the first three questions we’re going to ask a borrower when they call us because that’s going to affect pricing.
Eddie Knoell: Where we see credit scores really affecting borrowers is with conventional loans. FHA loans, VA loans are very tolerant to lower credit scores, and that’s not true about conventional. Conventional loans that go to … they call them Fannie Mae and Freddie Macs, these conventional loans. They’re really advantageous for borrowers with credit scores above 700. That’s kind of the tipping point when I look at, is a borrower going to be going … am I going to be putting them into a FHA loan, or conventional. It’s going to be whether or not their credit score is more or less higher or lower than 700.
Eddie Knoell: I’m going to also note that when I’m looking at a conventional loan, and the borrower has less than 20% down, now they have mortgage insurance. Mortgage insurance is extremely affected by credit scores.
Tom Knoell: Right.
Eddie Knoell: I can just give an example of that. Borrower A has a 760 credit score. His mortgage insurance factor will be four times lower than a borrower with a credit score … sorry, the mortgage insurance rate will be four times lower than the borrower with a 620 credit score.
Tom Knoell: Wow. Yeah, that is a big difference.
Eddie Knoell: It can actually even be higher, but to make it simple, four times. Now, it’s rare that we would ever structure a loan to have a borrower go into a conventional loan with mortgage insurance with a low credit score because we would actually be looking at that FHA loan product. Usually the reason why we would not … To say, we do put them in a conventional loan, it’s usually because the loan amount. FHA loan amounts are capped currently at about 314,000, and the conventional loan products, about 484. You’re looking at a larger loan amount, and you have lower credit scores. Yeah, you’re going to be paying for it on the mortgage insurance.
Tom Knoell: [inaudible 00:08:28] ask yourself what is a credit score? Why is it? I think it would simply come down to proving or showing the borrower’s ability to repay. It’s that simple. You’re going to a stranger, you’re applying for a loan. They don’t know you from Adam, they never will meet you, and they need to assess as to whether or not you’re going to repay. It comes down to a number.
Tom Knoell: I was thinking, boy, wouldn’t it be nice if all the kids that our kids dated, if they had a number, because you meet these kids, you’ve never met them before. How do you know what type of a person they are?
Eddie Knoell: Yeah, they have like a quality score as a human. This person has a score, and there’s a range.
Tom Knoell: That’s right. If you were to compare mortgages with, obviously dating, it’s a little bit out there, but there would be a character component to the dating, but when it comes to mortgages, all we are looking at is just the ability to repay. They don’t care if you’ve been in jail. Well, I don’t want to get too far into that because the algorithms are highly complex, and they do try and look at you as a whole person, but as a whole person as it relates, not to ethics or morality, but just in your ability to repay that loan.
Eddie Knoell: Yeah. A lot of people think that their assets show up in credit reports, and they don’t, right?
Tom Knoell: Mm-hmm (affirmative).
Eddie Knoell: If you had a million dollars in the bank, the algorithm doesn’t care because it doesn’t see it.
Tom Knoell: Right, right. They don’t also care how much money you make.
Eddie Knoell: Right.
Tom Knoell: Some of the old facets, I don’t know if this is actually true or if people just thought it was true, but they thought it was somewhat based on your income, and that’s not correct.
Eddie Knoell: Right. Yes, that information is not shared with the bureaus unless there’s some conspiracy out there that the bureaus do have it, but they tell us no, they don’t have any income or assets, so it does not affect score. It’s basically how have you been treating the debt you have in your name.
Tom Knoell: Right, okay. I thought this would be a little bit worthwhile too. I looked at a quick loan, knowing we were going to get on this podcast and talk about credit mortgages, and I looked at a credit score from 620 all the way up to 760, I think it was. The actual interest rates varied from 5.3 all the way down to 4. If I had more time, I would have gone in and said how much more interest or less interest would the better credit score or worse credit score borrower pay over 30 years, and I didn’t have time to do that, but I think that’d be a bigger number than we all think.
Eddie Knoell: Yeah. Yeah, absolutely.
Tom Knoell: I thought that was-
Eddie Knoell: It’s a massive-
Tom Knoell: … unbelievable.
Eddie Knoell: It’s a massive hit.
Tom Knoell: It is, it is.
Eddie Knoell: Keep in mind everyone in the audience that there are programs we have if you have a certain income eligibility, there are programs that we can put you into that are [inaudible 00:11:39] friendly on the conventional loan product. Just don’t make any assumptions. Just don’t assume that you’re going to get a really bad product or a high interest rate. There might be something we can do, but we’re just talking about in general.
Tom Knoell: Right, yep. Yep, in general. Also, Ed, we talked about breaking up what makes up the credit score. What are the different-
Eddie Knoell: Oh, before you go there. I forgot about one more product that we have to mention. The jumbo loans. Jumbo loans in Arizona are really anything above 484,000.
Tom Knoell: [crosstalk 00:12:15].
Eddie Knoell: Jumbo loan financing, again, it’s not conventional, it’s not government. These are either private or large institutional banks that are giving you the money, and they have very strict requirements on credit, and usually those loans require a 700 score. There are some with maybe lower requirements, but they have a higher down payment requirement, but yeah, a 700+ are pretty much required for jumbo financing.
Tom Knoell: Yeah, and we’ve run into that a lot. We work with different borrowers, work through the application, and end up pulling credit only to find out that they’re 698. Literally two points can make the difference between that jumbo loan working and not working.
Eddie Knoell: That’s right.
Tom Knoell: Anything else on the interest rate pricing side?
Eddie Knoell: I don’t think so. Maybe I’ll just mention this, that if you’re a little higher than that conventional loan amount limit, we are structuring a lot of loans with combo financing with a second a mortgage behind it, but second mortgages are sensitive to credit scores as well, but a lot of times it is a good solution that we put together for our customers.
Tom Knoell: Right, okay. Also, we get asked, not a lot, but we do get asked, “What makes up my credit score?” I thought I would just run through the five different pieces that generally make up your credit score. One is going to be the utilization of the credit that you use. All the utilization means is what percentage of the credit line that you have do you actually use. Those that use a lot of it show that they might depend on that credit, and therefore that would drop your credit score. The credit bureaus are looking for low utilization. Example, $1,000 credit line on a credit card, they typically want you not to have any more than $100 to $200 balance at any one time on your card. [crosstalk 00:14:18]-
Eddie Knoell: Oh wait, what’s that ratio? Or do they-
Tom Knoell: Ten to 20%.
Eddie Knoell: Right.
Tom Knoell: Ten to 20%. If you’ve got a $2,000 credit card limit, they would tell you that your balance shouldn’t be any more than $2 to $400, which again, is quite low, but one of the things we do work with our clients on is if we know they have a purchase coming up or a [refi 00:14:40], we’ll work with them to get that utilization down low enough prior to pulling credit. That can be critical. It takes us about 30 to 45 days to get that timing right because it’s all based upon the cycle of their credit card, but we can walk you through how that works.
Tom Knoell: If for some reason you don’t have time to wait, there’s also a rapid rescore ability, which is where we pull someone’s credit, and our semi-fancy credit program tells us what you can do to increase your score by a certain amount. That’s a very helpful tool that we should probably brag about one day.
Tom Knoell: There’s utilization for credit cards. The next big piece is the history. How long have you had your credit? Someone that’s had it for six months is quite different than someone that’s had it six months … six years, I should say. I mentioned the six months because new credit is considered anything six months or more recent.
Tom Knoell: Utilization, the history. Next we have the type of credit. Do you have a good mix of credit, do you have auto, do you have a home, do you have a credit card, do you have a Macy’s charge card? Those are different types of credit, and they like to see a good mix.
Tom Knoell: I think, actually, I covered all of them. I said the history. Oh, you know what, I may have gotten mixed up. The length of credit, we talked about, but the history of credit, meaning the actual characteristic of how you’ve paid. Have you been late, do you have delinquents, how old are those delinquencies, et cetera?
Tom Knoell: Those are the five big groups. I’ll just run through them again real quick. Utilization’s a big one. The history, meaning the delinquencies and timing of all your payments is the next biggest one. Then the type of credit or mix. The new credit that you may have added, which is going to be six months or more recent. Then lastly, the length of your credit, have you had this credit two years, five years, ten years. That’s your basic makeup of the credit score.
Eddie Knoell: Yeah, and I’m just going to add one thing as just a footnote, because how many times do we hear, “We don’t want you to pull our credit right now because we don’t want that credit inquiry on there”? From what I remember is that credit inquiries affect the score no more than 10% of the score. So, if you had your credit pulled 1,000 times, it would not affect more than 10% of your score. Usually, when people are seeing a score decrease, or whatever the amount is, it’s usually on account of something’s changed on their credit report.
Eddie Knoell: But my whole point is I don’t want customers looking to get a mortgage to be too afraid about having their credit pulled-
Tom Knoell: That’s right.
Eddie Knoell: … because we can use your credit report, in most cases, for 120 days. That’s four months. For four months, your preapproval is good. Don’t be too afraid about having your credit pulled. We don’t want to have you pull your credit multiple times, but again, it’s part of a normal consumer’s life. You go out there, you get credit.
Tom Knoell: That’s right.
Eddie Knoell: And it’s built into the algorithm.
Tom Knoell: Yep. And again, reminder, if we do pull your credit and we find ways to increase it, we’ve got abilities to do that. Also, second to last point. Credit’s like a muscle. You have to exercise it. Credit bureaus don’t love the fact that you have no credit, credit bureaus love the fact that you have credit and you don’t use what you could use. Moderation and control is what the credit bureaus want to see. Don’t cut up your cards, don’t put them in the freezer. Use them.
Tom Knoell: Ed, do you want to talk about our last point, which is what is the easiest way for people to increase their credit score?
Eddie Knoell: I think that in most cases, the reason why people have a higher score, or a lower score, is because they have, like what you just said before, it’s the utilization. Usually the simplest way to improve scores is to pay down the … especially the credit card debt.
Tom Knoell: Right. That doesn’t mean pay it on time, right?
Eddie Knoell: Right. I’m just saying, even if they’re paying it on time, fine, but if they need to get their balances down to 20, to 10%, if they’re maxing them out, it’s the easiest and quickest way to get that score up. If it’s because they have past history, past lates, those are scars that just get better over time. Those take time. You can’t do anything about that.
Tom Knoell: Right.
Eddie Knoell: Establishing new credit, that takes time. The quickest way is paying down, especially the credit card debt.
Tom Knoell: I agree, I agree.
Eddie Knoell: If you’re planning on getting a mortgage, if you pay that off, sometimes … I would say consult with your loan officer because your loan officer might tell you, “Listen, your score is fine. It’s not going to affect you on this loan. It’s better for you to have that asset in your bank versus paying down the debt.” I would say consult with the loan officer-
Tom Knoell: We do get that a lot.
Eddie Knoell: We do that a lot, but we’ll tell someone, “Okay, no, it’s better for you to have that money in the bank because there’s a trade-off.”
Tom Knoell: Right, don’t risk the down payment is what we always say.
Eddie Knoell: Yeah.
Tom Knoell: Okay. Well, I feel like there’s a few things we’re missing, but I’m sure we’ll cover this topic in future podcasts. Anything else on your end?
Eddie Knoell: Oh, I would just say one more thing. Do not pay your collections before … Talk to your loan officer about that, too. Sometimes paying off a collection can affect your score. Actually, paying off a collection can lower your score.
Eddie Knoell: Anyway. It’s really talk to the loan officer. We’ll advise you what we think is right. I can’t think of anything else.
Tom Knoell: Okay, well, good. Well, thank you, everyone, for your time, and joining us for this fourth podcast.
Eddie Knoell: That’s right. Be sure to subscribe, and you’ll be notified of all future episodes. Thank you, everyone.
Tom Knoell: Take care.
Eddie Knoell: Bye-bye.
Eddie Knoell: Hey, guys. Thanks for listening to the Mortgage Brothers Show. Please let us know if you have any questions you’d like us to answer on this podcast. You can email your questions to Tom at email@example.com, or yours truly at firstname.lastname@example.org. Be sure to ask us for a free quote on your next mortgage. Tom and I will personally work with you and help you through the whole process.
Eddie Knoell: Signature Home Loans, LLC does not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only. You should consult your own tax, legal, and accounting advisors before engaging in any transaction.
Eddie Knoell: Signature Home Loans, NMLS 1007154, NMLS# 210917, and 1618695. Equal housing lender.