Credit Report Basics: Mortgage Professionals

Credit Reports are an integral part of the mortgage lending process. However, when reviewing a credit report, there are important pieces of information that will have a direct impact on the loan decision. The first of these is credit scoring.

The credit score is a numeric representation of a combination of the borrower’s credit history; the percentage of outstanding debt against the maximum credit line available on a revolving account; the age of accounts; the type of accounts (revolving vs installment); and more. There are three primary bureaus for credit reporting in the US. Each has their own scoring model resulting in a different numeric score. Most files have three scores for each borrower and the determinative score will be the lowest middle score. For example, a borrower may have scores of 750/740/730. In this example, the determinative score is 740. If there is an additional borrower and their scores were 720/710/700; the overall score for the file is 710.

Other important considerations when reviewing a credit report is the type of credit. The most common forms are:

·         Revolving – An “open end” credit account; the borrower can add to the credit balance at will up to the limit of the credit. There will always be a minimum payment for the credit. Credit where the minimum payment will payoff the balance in 10 months or less will not be part of the debt to income (“DTI”) calculation. If the revolving credit does not specify a minimum monthly payment, the lender must compute a minimum payment based on the guidelines from the investor or agency.

·         Installment Account – An account with a set amount at the beginning and the balance cannot be increased. Again, if the minimum monthly payment pays off the debt in 10 payments or less, the installment payment will not be included in the DTI.

·         Open or 30 Day Charge Accounts – These are accounts where the balance must be paid in full each month.  American Express is the most common example of a 30 day charge.  Depending on whether the loan is being underwriting to Fannie Mae, Freddie Mac, FHA/VA/USDA will determine the handling of these types of accounts when it comes to loan qualifying.  The lender should consult the guidelines of the respective agency for more information.

·         Lease Payments – An installment account where at the end, the borrower must turn the leased property back into the lessor. A car lease is a common example. Unlike other debts, the lease must be counted as part of the DTI as it is assumed that the borrower will release a similar property after termination of the lease.

There are other types of loans including Mortgages, which are similar to installment loans but they are secured by real estate.  The lender must be careful when reviewing the minimum payment on a mortgage to determine whether property taxes and insurance are included on the payment listed on the credit report.  If they are not, these must be added to the minimum monthly payment. 

Home Equity Lines of Credit (HELOC) are also very common.  They are revolving loans secured against real estate.  When reviewing the credit report, it is important to check for HELOC’s with a zero balance.  Because many credit reports report open accounts with a balance first and then open accounts with a zero balance, a HELOC which is open but does not have a balance may not show up at the top of the report and can be easily missed.  Even though a payment calculation may not be needed depending on the guidelines, it will effect the CLTV and HCLTV of the subject loan if the transaction is a refinance and the HELOC is not being closed at the time o settlement. 

Student loans  are another type of credit that represents a challenge to the mortgage process. Computation of minimum monthly payment will vary according to the pay plan of the loan. This will often require additional information before determination of the minimum monthly payment.  A separate post is forthcoming regarding student loans and how they are handled.

Other credit items which may show up on a credit report include:

·         Alimony/Child Support

·         Tax Liens (Federal/State/Local)

·         Judgments (Court Ordered Liens)

·         Bankruptcy (including Deed in Lieu transactions)

·         Foreclosure

Space does not permit a complete report on the items found on a credit report. The loan officer will review the information on a credit report with a borrower to discuss any specific items and if a resolution is needed prior to the loan decision.  For more information on credit reports contact [email protected] for assistance.  For current contract underwriting and contract processing customers of The Commonwealth Group, please use the Scenario Desk email for specific questions.

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