This guide was designed to help you assess your possible credit rating and what type of terms you can expect from a lender. Please keep in mind this is only a general guide as some lenders place different grades based upon their own method of evaluation.
The following main factors determine your Credit Grade:
The credit is broken into three primary categories:
1. Mortgage Credit -- Your payment history on your existing, or previous mortgage. The past repayment history on mortgage debt can be a good indication of a borrowers attitude toward mortgage obligations. Payment history on mortgage debt is very important in determining your credit grade. Obviously this relates to people who have owned a home before.
2. Consumer Credit -- This category relates to installment and revolving credit. Installment credit encompasses longer term credit with structured payment plans, such as car loans or student loans. Revolving credit encompasses department store and bank credit cards. Generally, payments received 30 days past the due date are reflected in the credit report as late.
3. Public Records -- The third category relates to public records such as previous bankruptcies, collections, foreclosures and judgements. The A borrower cannot have any bankruptcy within past 2-10 years. The D borrower could currently be in bankruptcy or foreclosure.
The more serious the credit problems, the further the grade decreases (see below ). As the grade on loans decreases, lenders generally assess higher rates and fees.
Besides credit considerations, lenders review the capacity of the borrowers to repay the mortgage obligation. Lenders calculate the debt ratio dividing the total monthly debts (the housing expenses for the proposed loan plus the borrower other monthly credit obligations) by the total monthly income. For example, if the total obligations of the borrower is $1,400 ($1,000 for housing expenses and $400 for other credit obligations), the debt ratio would be 35% ($1,400/$4,000 = 35%).
If a borrower has a low debt ratio, the grade will be higher. Conversely, if a borrower has a high debt ratio, the grade will be lower.
Loan-to-Value Ratio, or LTV as it is commonly referred to, is the ratio of loan amount to the appraised value (or the sales price, whichever is less) of a property. For example, a loan of $100,000 on a property valued at $200,000 is at an LTV of 50%. The higher the LTV, the stringent the lenders become on credit and debt ratio. The A borrower can get 100% LTV loan and in some
cases even 125%. For the D borrower maximum loan-to-value ratio averages 65-75%.
Mortgage lenders and other creditors frequently use credit scores, known as FICO scores, to determine the credit risk. The higher the credit score, the better the credit risk.
FICO stands for Fair Isaac Company, the company that created the original scoring system. Each credit bureau has its own unique system that allows them to offer a score based solely on the contents of the credit bureau’s data about an individual. However, a numerical score at one bureau is the equivalent of the same numerical score at another. Thus, a score of 700 from Experian indicates the same creditworthiness as a score of 700 from Trans Union or Equifax, even though the calculations used to determine those scores are different at each bureau. The scores range from 375 to 900 points, and in general, a score of 650 or above indicates a very good credit history. Average FICO scores fall into the range between 620 and 650.
It must however be noted that not all lenders give same value to a particular credit score. Besides, not all lenders use credit scoring system and even when they do they may not use credit scoring system for all their loan programs.
The interest rate a lender will charge depends on these four main factors. If all the factors are great, the loan is assigned A grade and therefore qualifies for the best interest rate. If even one of the factor is not up to par, the quality of the loan is downgraded to A-, B, C, or D paper. D papers refers to what is known as hard money loans which are mostly based on the equity in your home and not on your credit. A lender who is making a B, C or D paper loan is taking a higher risk since there is an increased likelihood of the loan defaulting. The lender is compensated for higher risk by charging the borrower a higher interest rate:
A- papers could have rates 1% - 1.75% higher than A papers
B papers -- '' -- '' -- 0.25% - 0.75% higher than A- papers
C papers -- '' -- '' -- 0.75% - 1.5% higher than B papers
D papers -- '' -- '' -- 1% - 1.75% higher than C papers
Below are typical of the requirements used by many lenders, but are not absolute grades - lenders typically have similar but somewhat different specifications.