If you are under the age of 40, you likely think that getting a mortgage has never been more difficult as the lenders and government have tightened their respective belts after the financial crash starting in 2006. Well, you aren’t far from the truth, but the real truth is mortgage lending is cyclical in respect to tight or loose underwriting requirements.
In the current environment, we see several areas in which lending is more difficult today than it was 12 years ago. We won’t count the run up from 2002 through 2006, as that was period absolutely riddled with “beyond comprehension stupidity” in terms of what lenders were accepting from their prospective customers’ financials.
Today, FICO scores are more important through the industry, particularly for government backed loans, than ever before. Since the 90’s, conventional loans have been driven by FICO scoring. If you are not aware of what exactly FICO scores are, they are a mathematical algorithm pioneered by Fair Isaac and Company, designed to quickly assess the risk associated with any person who has a credit history.
Of course, based on the risk level of any individual, a company can simply look at the scores and decided “yes” or “no”, and then offer an interest rate associated with that FICO score based on that risk.
Prior to 2007, FHA insured mortgages, did not require FICO scores from its borrowers. Hence, a borrower could show up with a history of on time utility bills, gym membership payments, or a history of paying a doctor on time, and get a home mortgage.
Well, that doesn’t fly today. Lenders today all have a FICO requirement for FHA loans. For most, the very lowest scores can be is 620, although some lenders can go as low as 580. As a side note on the 580 lenders, the person has to be pretty much perfect once they get below 620 or they simply won’t get a loan. So, for all intents and purposes, 620 is the lowest practical score for borrowers today.
Conventional loans continue to use FICO scoring, but today, the scores are used not only for qualifying purposes, but to determine which interest rate the borrower will get. Naturally, the higher one’s score the associated interest rate will be that much lower.
The other area of conventional mortgages affected by the FICO scores is the total loan amount. Remember, scores are all about risk assessment and the higher the loan amount the greater the associated mortgage payment. It follows that higher payments, given all things being equal, will equate to more defaults.
Hence, better FICO scores for conventional mortgages equate to higher loan amounts. As risk goes down for a particular borrower, a lender can feel comfortable loaning more.
FHA loans have always been very low down payment options, which is why for many years it was considered an entry level or first time home buyer’s loan. In fact, when FHA was established in the 1930’s, one of the reasons was to create an entryway for homeownership.
Thus, down payment requirements, albeit higher today than 13 years ago are still quite manageable at 3.5% of the purchase price.
Where FHA has become more viable is in maximum loan amounts. 13 years ago FHA loans were generally pretty small relative to the average sale prices for any given area. Although they still do not lend as much as their conventional counterpart, the loan amounts have come up will about the area average home price. With that in mind, it is now being used more often as a move up loan product.
Conventional loans are quite the same in regards to down payment. There is no more 3% down loans however. The minimum one must have is 5% of the purchase price.
How does credit factor in to all of it?
Getting a home mortgage is sort of a cocktail of various parts of one’s financial profile. The one string that runs through all of it is credit and one’s credit history. Whether you get approved, your interest rate and how much you must use as a down payment are all results of a credit history, particularly for conventional loans.
Conventional underwriting will be much tougher, for example, on a person offering 5% of the purchase price as down payment as opposed to 20% down. Risk goes up with less down, right?
This is why, particularly after the beating so many people took after 2007, that FHA has become the loan of choice with its moderate credit requirements and low down entry.
Even still, many people don’t have the credit even for FHA loans which is why credit repair has become a cottage industry since 2007.
You can imagine how many bankruptcies, foreclosures and other big derogatory marks were left on credit reports. Well, for many black marks, like foreclosure and bankruptcy, lenders let you rent for years on end until those marks “season” long enough that they’re formula says “you’re a good risk” again.
People know this and although home ownership is not as important to the whole of society as it was formerly, the vast majority of people still consider it a staple and signal of upward financial mobility and stability.
Hence, many with rough credit histories are jumping on the credit repair bandwagon for the express purpose of purchasing a home. It should be noted that credit repair is tricky business. Many companies involved are doing so for a quick buck and don’t have much experience nor the inclination to help you in the proper way.
It’s a money making proposition for many and many will tell you whatever you want to hear in order for you to drop $600 to $1,500 to repair your credit. If you’re looking to boost your scores by using a credit repair service for the purpose of buying a home, be very careful of whom you choose. Check the fruit on the tree.
On the flip side, many companies exist which have been in business for many years and will continue to stay in business because they actually do the work of credit repair and offer very good advice for their clients to rebuild an excellent credit profile.