A What If Report is a Credit “Crystal Ball” for Consumers

InvestorDirector.com

Though credit reporting agencies keep their scoring models a secret, there is an insightful tool that can be used to help raise a consumer’s credit scores.

Among other factors such as income, down payment and employment history, your ability to obtain home financing hinges on your credit scores. Most mortgage lenders in today’s real estate market generally require a home buyer to have two of their three credit scores above 620. The problem is that many consumers’ credit scores are lower than this level, disqualifying them from obtaining a mortgage. This article will unravel the makeup of your credit scores and introduce a very useful tool that can be used to determine what actions to take to raise your three credit scores.

Makeup of your credit score

Credit scores are designed to measure the probability of a consumer paying a debt back to a lender. The exact formulas for calculating credit scores remain a secret by the organization that created them, the Fair Isaac Corporation (FICO). A consumer’s FICO scores are available through the three major credit reporting agencies which report a consumer’s credit score: TransUnion, Equifax and Experian. FICO has only gone as far as disclosing to consumers the following components and the approximate weighted contribution of each factor which creates a credit score:

• 35% — Payment History – Late payments on installment accounts such as a car loan or on revolving accounts like a credit card, can cause a consumer’s FICO scores to drop. Paying accounts as agreed over time will raise a consumer’s FICO scores.
• 30% — Credit Utilization – The ratio of current revolving debt (such as credit card balances) to the total available revolving credit (credit limits). Keeping debts below 50% of their total credit limit keeps credit scores strong. Applying for and receiving credit limit increases will drive down the utilization ratio, enhancing scores.
• 15% — Length of Credit History – An aging history of on time bill payment has a positive impact on a consumer’s FICO scores.
• 10% — Types of Credit Used – Consumers benefit by having a history of properly managing different types of credit: installment (car loan) , revolving (credit card), consumer finance (Sears or Home Depot Card) and mortgage.
• 10% — Recent search for credit and/or amount of credit obtained recently – Multiple credit inquiries for a consumer seeking to open new credit can hurt an individual’s score.
• Any money owed because of a court judgment, tax lien, or similar carry an additional negative penalty, especially when recent.

A tremendously useful tool for buyers shopping for a mortgage is known as a What If Report. Commonly called a Credit Score Simulator, a What If Report is a personalized step by step guide, generated by credit reporting agencies, which shows a potential borrower what actions to take to improve their credit scores. Best handled through a mortgage broker or loan officer who are usually experts at “jumping” credit scores, a credit score simulator can help determine if a home buyer with low credit scores, has the potential to obtain a mortgage by doing various things such as paying down current credit card debts, judgments or collections. Many consumer accessible credit report vendors also offer this service.

Most helpful is that actual score increases are shown through these simulators and matched to the various actions a potential borrower can opt to take. For example, a credit score simulator shows that a potential borrower has a $900 collection that, if paid off, will increase their three credit scores an average of 20 points. The simulator also shows the potential borrower has a $1,500 credit card balance. By paying the credit card balance down by $751, the borrower’s three credit scores will jump up an average of 40 points. Using the information generated by the simulator, the potential borrower can decide which actions to take that will impact their scores the most, and learn how much each action will cost. In this example, it is actually cheaper to pay down the credit card by $751 than it is to pay the $900 collection off. Choosing to pay down the credit card also bumps their credit scores 20 points higher than choosing to pay the more expensive collection off. If the borrower can afford to pay down both of these debts, a whopping 60 point increase in credit scores would be realized.

Because Fair Isaac will not release the information pertaining to their scoring models, except for the loose guidelines above, consumers are usually in the dark when it comes to understanding – let alone raising their three credit scores. That’s the power of a What if Report. It’s literally a crystal ball at your fingertips and can be used to show you the exact actions to take which will raise your credit scores to levels that mortgage lenders will work with.