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What Banks See When They Look at Your Credit File
By Tammi Koza and Carl Phinney
As a real estate investor, you need to be proactive about keeping on top of
your credit report. No matter how good your credit, reporting mistakes can
and do happen - mistakes which can seriously affect your ability to finance
an investment and/or delay your transaction.
We recommend that real estate investors go through their credit reports on
a regular basis. Carefully checking your report ensures you'll catch any
fraud, ID theft, or reporting mistakes and can take steps to correct
mistakes ASAP. You can obtain a free copy for your credit report from www.annualcredit.com.
When investing in real estate, it also pays to view your credit reports the
way a bank would. Most people know the credit score is the first thing the
bank looks at when reviewing a credit file, but few people know lenders
also look at a host of other data, including credit availability, public
records, and trade lines. What follows is a primer on what the bank sees
when it pulls your file.
- FICO score
* Next 37 17 investors only!
The three credit reporting agencies give each person a credit score based
on a number of factors. Scores range from 300 - 850, with 850 being the
best. Most banks take the average or middle of the three scores and call
that your mid-FICO score.
The key here is to understand that lenders have different programs they
can offer based on the FICO score. For the purchase of a primary
residence, a 580 FICO is the lowest score you can have if you're going with
a sub-prime lender to get 100% financing on a full-doc loan. (Sub-prime is
the word used for those with less than perfect credit or a FICO score
that's under 620.)
Rules of thumb for investment properties: You'll need a 660 FICO and no
late mortgage payments to get 100% financing on a 1-2 family. For a 3-4
family, a 720 FICO is required.
- Late mortgage payments
The second biggest factor in determining your credit worthiness is your
mortgage payment history. Your credit file will show if you were more than
30 days late on a payment. If fact, your file shows the lender's name and
the mortgage amount with three columns labeled 30, 60, and 90. This format
allows the bank to quickly add up the number of late payments.
If you were 30 days late, for example, a "1" shows in the 30-day column. If
you were 30 days late twice, a "2" appears. Ditto for the 60- and 90-day
columns. If you have one or more 30-day notations, you can still get
financing, but those late payments significantly affect the type of loan
program you can get.
What if your credit report is showing a late payment but you know you made
every payment on time? Erroneous late payment listings on your credit
report are more common than you think - and they need to be fixed, pronto.
To rectify a reporting error, you can do the following:
- Produce your check or mortgage statement(s) showing the payment was
made on time. Make a copy of the statement and send it with a letter to
each of the reporting agencies. It will take a few months for the
readjustment to appear on your credit reports.
One word of advice - don't destroy your check and mortgage
statements! If your lender has gone out of business, you'll need these
documents to prove you made timely payments. One client we had burned his
statements each month, making it difficult to prove he had made his
payments on time. Another lender failed to give the reporting agencies
mortgage payment histories - which meant one of our clients had no mortgage
history on his credit report!
- Obtain a signed letter from the lender stating that the late
payment charge was a mistake. Again, you can mail this to the reporting
agencies with a letter from you requesting they update your report. If
you're applying for a new loan, the bank letter will be submitted with your
loan application.
- Have your Lender or Broker run a Rapid Re-Score. A late payment
notation on your credit report can suppress your credit score dramatically,
so it pays to run a Rapid Re-Score if you think you'll be applying for a
loan in the near future.
As the name implies, a Rapid Re-Score is the fast method for correcting
your credit report. Your lender or broker sends the supporting
documentation to the credit reporting agency proving you made your mortgage
payments on time. You will be charged per item and per agency to update the
line items. Your credit score is then recalculated for the revised credit
report. One client trying to close on a property was able to increase his
credit score by 39 points once we recalculated it.
- Debt to income ratio
Banks like to see that you have a low debt to income ratio - less than
40% is ideal. To determine your ratio, add up all your monthly payments
and divide by your monthly income. For example, if you have $2000 in debt
payments and $4000 in income, your debt to income ratio is 50% -- which is
considered high. Some sub-prime lenders, however, will go with 55%.
- Open collections
Any debts that have been passed to a collection agency will appear on your
credit report. Before you refinance a property, Fannie Mae requires
these collections be paid in full.
- Public records
A bank looks at your credit file to determine if you've been taken to court
for past "judgments" such as foreclosures or bankruptcies. These judgments
will affect the type of loan you can get.
- Credit availability and trade lines
You don't need high credit limits to have good to great credit, but you
should ensure your credit cards aren't maxed out if you're thinking of
investing in real estate and want to go the conventional loan route. If you
have $10K in available credit, and you've used $8K, this will negatively
impact you. Banks also look to see you've made your credit card payments on
time.
Additionally, a lender will look at your report to see how many credit or
trade lines you have open and how long you've held them. Trade lines
include student loans and car loans, in addition to credit cards. Ideally,
you should have four trade lines that you've held for 24 months - with
one line having at least $5K of credit availability.
- Seasoned assets
Owning assets such as a 401k, IRA, stock portfolio, and/or cash reserves is
important. However, as with trade lines, a bank looks to see how long
you've held the asset. It won't help you to get $20K from Uncle Arthur
two weeks before you apply for a loan. A lender wants to see six to
nine months of seasoned assets in your name on an investment property
transaction.
- Erroneous information
As a consumer, you'll also want to check your report for erroneous
information the bank won't catch - such as merged information from someone
else's report. If you have a common name, such as Tom Jones, you'll want to
check that your information isn't being co-mingled with another Tom Jones.
Summary
Keeping your credit file up-to-date and accurate is your
responsibility. Be pro-active by ordering a copy of your report from
each agency, carefully reading through each line item, and quickly fixing
mistakes when they appear. You'll rest assured knowing that future lenders
won't find any surprises when you apply for a loan to finance that next
real estate investment.
Tammi Koza is the Branch Manager for Family First Mortgage Corporation in
Billerica, Massachusetts. Carl Phinney is the bank's Senior Mortgage
Consultant and Operations Manager. Both can be reached at 508-966-5055 or
by email at
tkoza@comcast.net or
cphinney@verizon.net.
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