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Credit Scores in Post-bust America

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Though mortgage lenders take many factors into account when deciding on mortgage approval, credit score is one of the most important. Low credit scores mean high risks for lenders. During the past decade, home mortgage approval rates have changed rapidly. The housing bust created tighter restrictions that resulted in many people failing to qualify for mortgages. However, the tides may be shifting and people with less-than-perfect credit numbers are once again having the chance to own their own home.

Kathy Gyselinck is Executive Vice President for Southeast Mortgage

Kathy Gyselinck is Executive Vice President for Southeast Mortgage

The History Behind the Score

Credit scores date back to the late 19th century. Cooperative credit bureaus complied lists of local customers that were deemed “good customers.” The lists were sold to merchants so they could determine if they wanted to lend to certain people. After the first proprietary credit cards were introduced in early 1900s, it became increasingly important for companies to see what consumers were worth the risk.

Engineer Bill Fair and mathematician Earl Isaac each put in $400 and founded the Fair, Isaac Company, which pioneered the credit score in 1956. The first general-purpose FICO score was introduced in 1989 and became available to all three major US credit reporting agencies in 1991.

These three agencies are, Equifax, Experian and TransUnion. All three bureaus use the FICO credit score model, which is calculated on five categories: payment history, amounts owed, length of credit history, new credit and types of credit used.

Affects of the Bust

One of the takeaways from the housing bust is the importance of loan quality. After the housing bust, more than 50 million people saw their FICO scores plunge by more than 20 points while 21 million saw their scores plunge more than 50 points, according to The Washington Post. While many Americans’ scores were dropping, lenders began raising their standards for acceptable scores.  Fewer high-risk mortgages were approved and good credit became more important than ever when buying a home.

Between 2006 and 2010, average credit scores rose from 701 to 728 for home-purchase loans. By contrast, a score of only 620 was acceptable to receive a mortgage rate during the housing boom years.  As a result, delinquency rates have plummeted. Only 0.5 percent of loans missed two or more payments in the last two years, 1/20 the rate of loans in 2006.

Recent Credit Changes

Credit scores may have finally reached a happy medium between reckless and strict lending. An article on Time.com reported that many banks are still suffering from the bust and are continuing to lay off workers.  To counteract the loss of business, banks have been considering customers for mortgages “who would not have had a chance a year ago when there was tighter restrictions.”

“I do think the loosening is a good thing because underwriting has been tightening so much over the last five years,” said CEB TowerGroup senior research director Craig Focardi.

He warns against banks loosening standards too much as the relaxed credit standards caused the credit problem in the first place. However, he notes that compared to the “anything-goes-mentality” lending that created the housing bust, these new standards are extremely modest.

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