How to Repair Poor Credit Before Securing a Home Loan Roger Odoardi If you’re a first time homebuyer with bad credit, or no credit whatsoever, the possibility of getting those ideals terms on that 30-year home loan mortgage may seem farfetched. But don’t worry; the lack of a good credit score shouldn’t stop you from pursuing home ownership. Luckily, there are several actions a person with poor credit can take prior to applying for a home loan that can help begin to repair your credit score. The team at Blue Water Mortgage, an independent mortgage broker serving Massachusetts, New Hampshire, Maine and Connecticut, has developed a series of proven steps and inside tips a first time homebuyer can take to help begin the healing process. The following recommendations, helpful hints and insightful facts have been developed thanks to the more than 150 years of collective mortgage experience among the Blue Water team. Step 1: You should go to your bank and give them $1,000 (if possible, if not whatever you can or even more if possible) and ask them for two “secured” credit cards. They should give you a “Visa” and a “MasterCard” against the funds that you gave them. Use these cards monthly for gas or something nominal and pay it off in full each month. This will build a credit history for you. Within 6-12 months you will have established credit scores. Once you have established credit you can ask for your secured funds (deposit) back. Step 2: If possible have a family member or great friend add you to one or more of their accounts as an “authorized user.” You will gain all of their past history so if they have had a card for several years or more that is most effective. You obviously want to make sure they had a good credit history with these accounts. These 2 simple steps can help spring board you toward better credit and you should have some great scores within a couple months. Some quick facts for you to keep your scores high: Don’t close out credit cards – your scores are generally kept higher when you have the ability to use credit, but choose not to. Try to keep your credit card debts below 40% of the maximum allowed. Keep inquires down. New credit applications or credit checks. This affects your scores because the bureaus do not know if you have taken on “new debt” so they lower your scores a bit in the short term to wait and see if you went on a “new “ shopping spree and don’t yet have a history to show the ability to repay those newly incurred debts. Makes sense, right? If you were late, contact your lender and ask for “one time forgiveness.” Most lenders/creditors have a policy were they will remove it – “once.” Paying off an old collection could hurt you. This makes no sense to you and me, but the credit report has washed it down the road and “forgot” about it and has penalized you less and less each month as that “bad debt” has gone by in the rearview mirror; however, if you pay it off today it updates that collection to today’s date and now it shows as a “paid” collections and your credit scores have likely dropped due to that update. We recommend that you consult us first so we can review it and determine what is best. Credit Counseling, I have never seen this as a “good” thing. Many of them tell you to stop paying your debts so they can then negotiate them. I would use caution when entering into any agreement and consult us at the same time. Below is a pie chart and further explanation of credit scores: What is a credit score? What do the numbers mean and how does this affect your ability to borrow money and at what rate? To answer these questions one must first decipher what a credit score is. A credit score is a three-digit number ranging from a 300 to an 850 that is generated by mathematical algorithms of the information contained in your credit report. Your credit score indicates whether you have bad (a lower credit score) or good (a higher credit score). The FICO is probably the most well known credit-scoring module. It is a branded name – like Band-Aid or Q-Tip – and is almost synonymous with the term “credit score”. FICO was developed by a company called Fair Isaac and has become the global standard for measuring risk in the mortgage, banking, credit card, auto and retail industry. The credit history or credit report is a record of an individual’s past borrowing and repaying history. Lenders like to see that a consumer’s debts are paid regularly and on time. Credit scores are designed to predict risk or the likelihood that you will become delinquent on your accounts over a 24-month period. The higher the credit score or FICO is the lower the risk you are from a lender’s standpoint. Credit is extremely important because 90% of all financial institutions use the credit score in their decision making process. Not only is your credit score important in determining whether you will be approved for a car loan, a credit card, a mortgage…etc., but it also determines what rate is given. Those with a lower credit score will pay a higher rate than those with a higher FICO score because they are considered more of a risk and therefore pay a higher premium. There are three FICO scores given to a consumer, one for each credit bureau, which are Equifax, Experian and TransUnion. These are the three major credit bureaus in the U.S. These are all publically traded companies, which are not owned by the government; however, the government does have legislation over these agencies as to how they should operate according to the Fair Credit Reporting Act. These agencies collect and maintain credit information in an individual’s credit report and sell this information to lenders, creditors and consumers. Each of the three credit bureaus uses a different model for calculating your credit score. These credit bureaus collect data independently of one another and do not share this information. In addition to this, creditors may only report data to one or two of the agencies as opposed to all three. You may have a collection account that was reported to Experian but not TransUnion and thus your Experian score will be lower than your TransUnion and vice versa. Data from your credit report goes into five categories that comprise your FICO score. These are: Payment History (35%) This includes any delinquencies and public records. A record of negative information can result in a lowering of a credit score. Risk scoring systems look for the following negative events: collections, late payments, charge-offs, repossessions, foreclosures, bankruptcies, liens and judgments. Within these items the FICO determines the severity of the negative item, the age or when the negative event occurred and the numbers of these negative events that occurred. Multiple negative items as well as newer negative items have more of an impact on the FICO than less severe and older items. You may have a recent late on your car payment which will have more of an impact that a late which occurred eight months ago. Amounts Owed (30%) This is how much you owe on each of your accounts. The amount of available credit on revolving (credit cards) accounts compared to what you owe has a large significance in the scoring. This is termed “Revolving Utilization” or “open to buy” This is calculated by taking the aggregate credit card limits and multiplying the results by 100. The higher the percentage is the more of a negative impact this has on the score. A general rule of thumb is this percentage should not be more than 30%. Length of Credit History (15%) This is when you opened the accounts as well as the time since the last activity. The age of the credit is determined by the oldest “account opened” date as well as the average age of the accounts opened in the file. Types of Credit Used: (10%) This includes a variety of accounts you have such as revolving (credit cards), installment (loans) and mortgages. New Credit (10%) This includes your pursuit of new credit, which includes credit inquiries (companies that pull your credit) as well as the number of recently opened accounts. There are several kinds of inquiries that may or may not affect the credit score. There are “soft inquiries” which remain on the credit report for 6 months, but are not visible to lenders or credit scoring model. These are the following: Pre-screening inquiry where a credit bureau sells an individual’s contact information to an institution that issues credit cards, loans or insurance. A creditor may also periodically check a customer’s credit report. A credit-counseling agency. A consumer can check his or her own credit. Employment screening. Insurance related inquiries Utility related inquiries. Overall, credit makes the world go around as the expression goes. It affects a first time homebuyer’s ability to borrow money and at what rate. Those with a lower credit score may be paying much more each month in higher interest rate loans than those with higher credit scores or they may be unable to obtain the loan at all if their credit score is too low. A low credit score can result in someone being unable to obtain a new car, boat, mortgage, credit card or loan they may need. Understanding what credit is and how to maintain a strong credit score is becoming more and more important in our society. As a first time homebuyer, it’s imperative to understand the importance of credit. Just as we want to build up our careers, income and net worth all the while maintaining a healthy and active lifestyle, so must we maintain healthy credit. Roger Odoardi Roger is an owner and licensed Loan Officer at Blue Water Mortgage. He graduated from the University of New Hampshire’s Whittemore School of Business and has been a leader in the mortgage industry for over 20 years. Roger has personally originated over 2500 residential loans and is considered to be in the top 1% of NH Loan Officers by leading national lender United Wholesale Mortgage.