Coping with Credit

You don't have to have sterling credit in order to buy a house, but you might have some explaining to do when you meet with a lender. Get ahead of the game and find out where your weak spots are--the better your credit record, the better home loan you are likely to get.

For many people, opening up their credit records to perfect strangers is one of the most difficult stages of buying a house. You may find yourself losing sleep over that department-store credit card you let lapse with a $5 balance due. But most people have glitches just like that one on their credit reports. Most of the time they are easy to fix and will not stand in the way of your getting a loan.

Bankruptcy, on the other hand, is another story; it stays on your record for seven years. But you can make the loan process a lot easier if you understand how lenders look at credit and take some steps to clear yours up before you actually apply for a loan.

Credit Scores: The Magic Number

Lenders have been looking over the past several years at different ways to streamline, and even automate, the home loan business. Many lenders--as well as the secondary mortgage market's big players, Fannie Mae and Freddie Mac--now use credit scoring as one way to speed up the loan process. But it can benefit you as well. People with higher credit scores usually are rewarded with lower interest rates.

Your credit score is a number between 400 and 700 that most consumers never see during the process of applying for a loan. But this statistical analysis of the likelihood that you'll pay back a loan on time could be what literally stands between you and a home of your own. A credit score draws from 100 variables in your credit report including delinquent bills, your outstanding debts, the number and amount of balances you owe your creditors, your credit history and what types of credit you have.

And the magic number is…anything over 620. If you score above 680, lenders will consider you a premium borrower and roll out the red carpet. Anything under 620, you are likely to be rejected.

Red Flags

What lenders don't want to see on your credit report

Too many late payments
Too many credit inquiries
Overextended credit
Liens
Paycheck garnishments
Bankruptcy

Reversing rejection

If you are turned down for a home loan for credit reasons, find out what the lender didn't like and take these steps to remedy the situation:

Ask your lender for a copy of your Residential Mortgage Credit Report, a compilation of your personal credit profile for past seven years issued by a credit bureau.
After reviewing your report, ask the credit bureau for a re-investigation of any questionable marks on your record. The bureau should provide a form to make this request.
Once you have filled out the form, the credit bureau has 30 days to investigate your claim and change your record. If you are correct, or if the creditor who gave you the bad mark can no longer verify the information, the credit bureau must remove that information from your report. Incidentally, a credit bureau may remove an item summarily if checking the item is more trouble than it is worth.
If the information in the report is correct, check the date of the bad mark. With few exceptions (such as bankruptcies) the credit bureau may not keep old credit information on file for more than seven years.

TIP: Be sure to check that all closed credit card accounts are labeled "closed by consumer" on your credit report.

Fast-track fix

It may take weeks to clear up a credit problem. But you may be able to devise a counter proposal that increases your lender's comfort level. For example, if you were turned down for an 80 percent loan because of shaky credit, the lender may be willing to loan you 75 percent of the home's purchase price instead of 80 percent. They might even be willing to loan you the extra 5 percent. Also, the lender may reconsider your application if you are willing to pay a higher interest rate or higher loan origination fees.

ABCs and bankruptcy

Bankruptcy significantly drops your credit rating and may be reported on your record for up to 10 years. But if you have declared bankruptcy recently, you may still be able to borrow money to buy a house.

In addition to credit scoring, lenders rate borrowers from A to E, with A-rated borrowers being the best credit risks. If you filed bankruptcy more than a year ago (but less than 10), a lender will probably rate you a C. As a C-rated borrower, you can expect a higher down payment requirement (20 to 35 percent) and to pay between 1 to 3 percent more in interest than an A-rated borrower. If your credit rating is less than an A, you may have to bypass commercial banks altogether and head straight for a mortgage broker specializing in difficult loans.