What’s Your Number? How Credit Scores Work

When you apply for a mortgage, your credit profile is often more important than the income and assets you can show a lender.

Your credit report is a picture, over time, of how you have managed credit. This gives a lender an idea of how you’ll manage the loan if it grants you a mortgage.

How does the lender get this report? Three credit bureaus manage credit data: Experian, Equifax, and TransUnion. When you borrow money, charge something, or make a payment, your creditor notifies one or all of these bureaus.

When you apply for a mortgage, your lender orders a credit report, which contains data from all three bureaus. Each of the three bureaus generates a credit score using a scoring model (they all use the same model), and this is included on the report.

At times, different bureaus may have different information, and hence will report different scores. The lender will use the middle score of the three as your “credit score” when evaluating your borrower profile.

There are many components that make up your credit score. Two of the most significant are your recent payment habits and your balance-to-limit ratio.

Your recent payment habits (the past one to two years) give the lender an idea of how well you stay on top of your monthly obligations. The balance-to-limit ratio takes a different perspective. It shows how much debt you have in relation to how much credit you have available.

An example of this would be multiple maxed-out credit cards. Even if you are paying all of your bills on time 100% of the time, you still may be overextended, and this will lower your credit score.

If you’d like to find out more about how credit scores are calculated or what you can do to affect your score, contact your mortgage professional for details.

What Is an Escrow Account, and How Does It Work?

There are two types of costs involved in taking out a mortgage.

First, there are the initial outlays such as down payment, appraisal cost, and lender fees.

Second, once you own the property, you’ll have ongoing expenses such as property taxes and homeowner’s insurance.

To help you manage these ongoing expenses, your mortgage servicer (which may be different than your lender) will set up an escrow account. You’ll pay into it each month as part of your mortgage payment. Your servicer will then pay certain expenses out of the escrow account on your behalf when they are due.

You may wonder why you can’t simply pay all of this on your own. In some cases, especially with larger down payments, you can. In many instances, though, particularly with FHA loans, this account is required.

There are several reasons lenders do this. The first is that it forces you to plan for expenses that will be payable eight, ten, or twelve months down the road. It also protects you from defaults. For example, if you were to stay current on your mortgage payments but fall behind on the property taxes, your taxing body could take ownership of the property.

Over time, expenses such as homeowner’s insurance may change. To adjust for these changes, once a year your escrow payment is adjusted. If too much was collected, a refund is issued. If there is a shortage, money is collected or added to future payments.

For more information on escrow accounts, contact your mortgage professional.