Scoring Solutions
When it comes to FICO® Scores for mortgage origination, several myths remain frustratingly hard to kill. Case in point: They resurfaced again in a recent column in the New York Times.
It’s worth restating some of the plain facts about the use of FICO Scores in mortgage — facts that are sometimes forgotten amidst legitimate concerns over the slow recovery in mortgage sales.
FICO® Scores are extremely powerful predictors of mortgage risk.
FICO Scores have earned a position as one of the key instruments used in mortgage originations, and lenders are right to rely on their predictive power to measure a borrower’s risk. The chart below shows recent data validating the correlation between FICO 8 scores and credit risk.
FICO® Scores are just one criterion used to make mortgage origination decisions.
Banks and the GSEs rely on a variety of factors when originating mortgage loans or buying them into the secondary market. These factors are often known as the “four Cs” — credit, capacity, character and collateral. FICO Scores represent the “credit” portion — what is the borrower’s credit risk? All the other factors are important as well.
FICO® Scores solely consider data in the credit report.
The credit report has a wealth of data that contributes to the power of the score; in fact, the U.S. benefits from the richest credit repositories in the world. Still, scores are sometimes criticized for not considering factors like the amount of equity that people have in their home, their debt-to-income ratio, their job stability and cash reserves. None of these factors are part of the FICO Score, because they’re not part of the information on the consumer credit report. But these factors are important criteria in mortgage lending, which is why they are all considered in most mortgage originations. In addition — going back to the “four Cs” — these factors really address capacity and collateral, whereas the FICO Score evaluates credit risk.
More recent credit behavior counts more than older behavior.
Delinquencies and other credit problems “age” -- carrying less significance over time and eventually falling off the credit report. A more recent late payment counts more than an older one when calculating a person’s FICO® Score. So consumers who have established good credit habits after going through a rough patch will generally see their scores slowly rise.
Every consumer can validate the data that goes into their FICO® score.
The FICO Score evaluates only credit history data, and it helps when all the underlying data is accurate. Mistakes do occur in credit history data, which is why FICO encourages consumers to regularly check the data at all three Credit Reporting Agencies. Each of the CRAs has well-established processes for consumers to correct inaccurate data. Consumers can also find tools on www.myFICO.com to help them communicate these changes to the CRAs.
Every consumer can check their FICO® Score, and understand how it works.
FICO empowers consumers to take control of their credit scores by providing free resources, advice and information about FICO Scores at www.myFICO.com. The site includes information on how scores are calculated, how to order your own FICO scores, and how to correct inaccurate information at the credit bureaus. We also host the FICO Forums, which are discussion groups among consumers on credit, FICO Scores and how to improve your financial health.
As we all focus on how to revive the housing market and improve the mortgage lending process, FICO’s hope is that we can focus on facts, not myths.
