Got credit?

Credit is the key to a mortgage loan. In fact, it may be the most important factor in the loan origination process. So do you really ‘get credit’? Do you know what a credit score is and how it is determined? As a mortgage professional, it is important that you have a sound understanding of credit scores. You should be able to answer all of your borrowers questions and determine how you can help a borrower improve their credit score in order to put them into a better loan.

To better understand credit scores, it is important to know the five factors that determine a credit score. In order to make these five factors easy to remember, IR has developed the following acronym:

            Payment History

            Length of Credit History

            Amounts Owed

            New Credit

            Types of Credit in Use

P.L.A.N.T. is a simple way to remember the factors that make up a credit score. However, it is important to note that each factor has a different weight in the makeup of a score. Each factor weighs as follows:

1. Payment History: 35% of the credit score

Payment history has the greatest impact on a credit score. Payment history takes in to account how many payments have been made on time and how many payments have been missed. The best advice to give to a borrower is to make all payments on time. Older missed payments will have less of an impact over time.

2. Length of Credit History: 15% of the credit score

In general, a longer credit history will increase your credit score. This is because lenders want to see that a borrower can manager their credit responsibly over a long period of time. A shorter credit history doesn’t always show this, but there are exceptions in cases of excellent credit files. For this reason, it is advised that consumers do not close older credit accounts; it may make their credit history appear shorter than it actually is.

3. Amounts Owed: 30% of the credit score

Amounts owed takes into account the overall credit utilization of a borrower’s credit file. It looks at credit limits versus balances. A borrower who has several maxed out, or near limit credit cards will have a lower credit score. A good rule of thumb is to keep overall credit utilization to 30%; this means utilizing 30% or less of available credit.

4. New Credit: 10% of the credit score

New credit, or inquiries, occur when a borrower makes a request for a new line of credit. Borrowers who apply for multiple lines of credit within a short period of time will have a lower credit score. Lenders see multiple inquiries for new credit as a possibility that the borrower is looking to take on large amounts of debt. However, new regulations allow for borrowers to rate shop for home and auto loans without being penalized on their credit score. If a borrower shops for a home or auto loan within a 45-day period, they will only receive one inquiry on their credit report, regardless of how many times they actually applied for loans. In addition, borrowers who shop for a mortgage loan within a 30-day period will not receive any inquiries on their credit report.

5. Types of Credit in Use: 10% of the credit score

Types of credit in use refers to the mix of different credit accounts that are in a borrower’s credit file. It looks at retail accounts, auto loans, mortgages, and so forth. A lender is trying to establish if the borrower has a healthy mix of accounts, which is just another way of determining a borrower’s overall ability to be financially responsible. This isn’t a key factor in determining a credit score, and a borrower should not feel as if they need to have one of each type of account. However, this factor comes is more important for credit files that do contain very much information.