Understanding Credit

Credit-ReportCredit is one of the most important components in the mortgage approval process.

Lenders look at a borrower’s credit score, number of open accounts, payment history, type of credit borrowed and a series of other factors when determining what level of risk to assess to each lending scenario.

Down payment requirements, loan programs, flexibility on income and even interest rates can be impacted by a slight bump in a credit score.

A credit score is primarily based on a statistical analysis of a person’s credit report information, typically from the three major American credit bureaus: Equifax, Experian, and TransUnion.

The three credit reporting agencies in the US, Equifax, Experian, and TransUnion, collect data about consumers and use it to compile credit reports. The credit agencies use FICO software to generate FICO scores, which are sold to lenders. Each individual has three credit scores at any time for any given scoring model because the three credit agencies have their own databases, gather reports from different creditors, and receive information from creditors at different times.

In the United States, a resident is permitted by law to view their credit report once a year at no charge by visiting the website AnnualCreditReport.com. The individual’s “credit score” information is available for an additional fee from each of the three credit reporting agencies. In addition, the Fair Isaac Corporation sells FICO scores directly to consumers using data from Equifax and TransUnion.

Once credit has been established and maintained, credit scores are based on five factors in varying degrees: payment history (35%), total amounts owed (30%), length of time (15%), type of credit (10%) and new credit (10%).

The largest impact on credit scores is payment history and amount owed, which is why it is important to pay bills on time. Debt should be kept to a minimum and funds should be moved around as little as possible. It may be beneficial to leave all accounts open, even if they have a $0 balance.

Different types of credit (ie. mix of credit cards, installment loans and fixed payments) can also benefit a credit score. But, too many installment loans can negatively affect credit. Although time is important for improving credit scores, this can be controlled by keeping the accounts that are opened during the same time period to a minimum.

By following these guidelines over an extended period of time, credit scores can be maintained and improved in order to improve the borrower’s loan potential and interest rate. So what impacts credit score?

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