Smart borrowers know to check their credit scores before applying for a home mortgage loan. But what if that score was unreliable? What if the scores that consumers can acquire from major credit bureaus or sites like Quizzle.com were different than the ones used by lenders?
The results of a new study conducted by the Consumer Financial Protection Bureau and involving 200,000 credit files from the three primary credit bureaus (Experian, TransUnion and Equifax) suggest that this is true for many borrowers. About “one out of five consumers would likely receive a meaningfully different score than would a lender,” according to the study.
According to the CFPB, the formulas employed to produce credit scores not only differ from one company to the next, but disparities can occur within the same company. For example, FICO, the most oft-used score, has more than 49 different credit scoring models available to lenders.
This discrepancy can have a negative impact on borrowers. Consumers who think their credit scores are higher than that determined by a lender can make inappropriate purchasing decisions or apply for credit cards for which they’re not qualified.
On the other hand, those who think their scores are too low may decide not to apply for credit or may pursue credit offers with unfavorable terms or higher rates than they need to pay.
Joe Chatham, president of Chatham Mortgage Partners, Westlake Village, Calif., says that while the credit score issue is confusing, understanding how the three credit bureaus use these numbers helps explain the score discrepancies.
“Each credit bureau has a different scoring model because each has different data, depending on subscribers and organizations that choose to report to them,” Chatham says. “Thus, depending on which [FICO] score the lender uses to qualify a borrower, that borrower may be subject to different mortgage pricing models. And the consumer scores that people pay to see via subscription or purchase are not the same ones that lenders use. Most lenders will pull all three models and use the middle score of the borrower to qualify.”
While many lenders use FICO scores to make lending decisions, “each lender has its own strategy, including the level of risk it finds acceptable for a given credit product,” says David Mays, mortgage lending director with Renasant Bank, Birmingham, Ala. “There is no single cutoff score used by all lenders, and there are many additional factors that lenders use to determine your actual interest rates.”
While it’s important to know that score variations exist, Chatham says there’s little that consumers can do about it, besides annually monitoring and clearing up inaccuracies in their credit reports and building a good credit history by making on-time payments and reducing the amount of debt owed.
“Lenders are not going to change the models they use. If consumers want to shop a loan based on a concern that the lenders will use different scoring models, they can call and ask which models the lender uses and shop those lenders who use different models,” Chatham says. “However, they may hurt some overlapping scores because of multiple inquiries.”
Like the CFPB, Mays recommends comparing loan offers from multiple sources.
“It’s always wise to shop around with different lenders for the best rates and terms because different lenders have different appetites to lend,” Mays says. “Also, some lenders use different scoring models and some don’t pull [scores from] all three bureaus, which would give the borrower the benefit of a higher FICO score with another bureau.”
When shopping loans, be sure to carefully compare the interest rate and annual percentage rate, the monthly payment and all closing costs and fees (including points, origination fees, charges for title and appraisal, etc.), experts say. Ask for a good-faith estimate and a clarification of any items you don’t understand within it.