The basis of most mortgage lending is credit scoring. In general, the higher a person's credit score, the lower his offered mortgage interest rate.
Despite the many credit scoring models in use today, however, just 3 are relevant to American homeowners:
- The Equifax BEACON® score
- The Experian Fair Isaac Risk Model
- The TransUnion EMPIRICA®
Generically, these scoring models generate what are commonly known as "FICO" scores.
FICO scores are measurements of probability. The higher a person's credit score, by definition, the less likely a person is to default on his home loan. This is one reason why credit scoring has added importance lately -- mortgage lenders are very careful about what they're lending and to whom.
Notably, minimum FICO thresholds have been added to all types of mortgage loans.
FICO scoring has 5 main components as listed above. Payment history and credit capacity are two of the largest pieces, but a myriad of other factors contribute to a credit score, too. For example, the longer your reported history of managing credit, the more favorably your credit score will respond.
This is one reason why closing a credit card can damage your credit score -- it wipes out the "reported history".
The myFICO.com website does a terrific job with credit education, explaining in plain language the ins-and-out of credit scoring and ways to boost your score. It also makes a free, 20-page PDF available for download.
Whether you're a homeowner or lifetime renter -- consider it required reading.
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