Buying a house is the largest one-time purchase most families will make during their lifetimes. While geographic location and the size of the house determine the price the most, the mortgage interest rate can also make the house more expensive than the original selling price. The reason why is because of credit scores, that three-digit number that lenders use to determine the interest rate to offer prospective borrowers for a loan. What many people do not realize is that a credit score is a fairly complex algorithm and every person has more than one credit score! How many? What is a good credit score?
A credit score is a piece of financial information that is mentioned during the financing process of any loan application, but, many borrowers do not know much about it. Primarily, they might be concerned that their salary and living costs are sufficient to prove they can afford the new monthly payment. But, mortgage lenders will also look at an applicant’s credit score to gauge the quality of their credit management skills. Most lenders do not have a prior relationship with the prospective borrower, so, a credit score is the universal barometer used to predict the likelihood that a loan applicant will repay the loan on schedule.
Everybody Has More Than One Credit Score
Many banks and financial companies have started to advertise free credit scores and credit monitoring. A few years ago, the only way to view a credit score was to pay a small fee or apply for a loan. What most of these credit score offers do not mention, is what version of the credit score they are providing you for free. In reality, there are approximately 28 different versions of a credit score, although most range from 300 to 800 points.
Plus, free credit monitoring services like Credit Karma and Credit Sesame will provide you a Vantage Score, instead of a FICO score, that is similar in scoring but can differ at least 10 points as some Vantage Score detractors say it is more “optimistic” than the FICO scoring model. The variation isn’t a big deal if you have an excellent score near 800, but can bring a surprise if you are borderline between qualifying two different interest rates.
Of the 28 varieties, the most common score, used by approximately 90% of all lenders, is the FICO credit score that was created by the Fair Isaac Corporation. The three credit bureaus, Equifax, Experian, and TransUnion, each have their own nuanced version of the FICO score. Part of this reason is because not every credit card or loan company reports the payment information to every bureau.
Anytime your credit report is pulled from the cell phone company or credit card company, the hard inquiry in usually only reported to one or two of the bureaus. Because of the reporting discrepancies, the credit scores from all three bureaus will be very similar but will most likely differ by a few points. For example, your TransUnion FICO score might be 801 but the score from Experian might only be 795, possibly because a bank or service provider recently accessed your credit report from the latter bureau instead of the former.
So why are there so many different credit score versions? Mostly because FICO has created industry-specific scores that give more weight to previous loans that are similar to the new one you are applying for. Auto lenders use the FICO Auto Score 8 that will more likely give you a higher score if you have successfully paid prior auto loans compared to the generic FICO Score 8. The same goes for credit card companies and mortgage companies. They use industry-tailored scores that give them a better idea if you can afford the new credit.
What Credit Score Do Mortgage Lenders Use?
Just there are several different versions of a FICO score that cater to specific industries, there isn’t a universal mortgage application credit score. Each credit bureau uses a different version of the FICO score versions as listed below:
- Experian: FICO Score 2
- Equifax: FICO Score 5
- TransUnion: FICO Score 4
So what is the difference between each of the scores, other than the information reported to the individual credit bureaus?
There really isn’t a clear-cut answer as the algorithms are still protected by the credit bureaus, but mostly, all these versions are older varieties of the FICO scoring model that do not take as many financial variables into consideration. The generic version, introduced in 2008, that has now been used the most for non-industry specific credit scores is the FICO Score 8. The FICO 8 version places more emphasis on high credit card usage but has reduced the emphasis on isolated late payments, authorized credit card users, and collections for accounts originally valued under $100. Its newest version, the FICO 9, has started tracking medical collections data.
For now, mortgage lenders are sticking with the older FICO versions that primarily track payment history for previous or current loans and credit card accounts. Of course, the older scoring models also place greater emphasis on late payments and collection accounts, regardless of the frequency and dollar amount. So it’s possible to have a lower FICO Score 2 or Score 4 compared to a FICO Score 8.
Prior to applying for a loan, you can obtain a free credit score that can give you a general idea of what your mortgage credit score will be. If you want to know for sure, you can also purchase the score from myFico. Obtaining the score might be a good idea if you are uncertain if you will qualify for the best mortgage rates. Most lenders usually require a credit score of at least 720 for private loans and 580 for FHA mortgage loans.
What to Know About Mortgage Credit Scores
Mortgage lenders place a lot of emphasis on a credit score. It can be equally as valuable as an applicant’s current salary and net worth because a credit score is the clearest snapshot a lender has into a person’s financial past. Not much financial data, good or bad, can escape a credit score. In addition to knowing what credit score will be used, it’s also important to know how the lenders use the credit score to make their decision to determine creditworthiness and the applicable interest rate.
Mortgage Lenders Use the Lowest Credit Score if Pulled from Two Bureaus
It’s not uncommon for lenders to pull your credit report from two different bureaus to make sure there are no discrepancies in reporting data. As a result, they will use the lower of the two scores to make their final decision. This means if your TransUnion Score is 800 and Equifax is 790, your credit score for the underwriting process will be 790.
Lenders Use the Middle Score if pulled from All Three Bureaus
If the lender decides to request your score from all three bureaus, they will use the middle score. For example, you have an 800 from TransUnion, a 790 from Equifax, and 793 from Experian, the lender will use the Experian score as it is the median score.
If Co-Signing, Lenders Will Use the Lower Score
When applying with a co-signor, the lender will use the same methodology above regarding retrieving the score from two bureaus or three bureaus and it will use the lower score between both borrowers. As an example, if your score is 720 and the co-signors is 760, the lender will use your score of 720 for the application process. Despite using the lower score, just remember that a co-signor might be necessary just to get approval for the loan so the bank.