New Credit Card Regulations Help Homebuyers Easier to Pay Down Debt and Qualify for Better Mortgage Rates

by Christina Crouch


When Brandon Hill, a 28-year-old marketing specialist based in Salt Lake City, went to buy a house, he got an unfortunate surprise. "I was under the requirement for an FHA loan at the time by about 15 or 20 points," Hill says. "We tried to get the mortgage under my wife's name, but the lender backed out. We needed to get my credit score fixed to buy a house."


Laden with $10,000 in credit card debt between Hill and his wife, Brandon doubled his credit card payments, but still had to enroll with a credit repair service in order to raise his score the 20 points necessary to land a loan. "It was a really long and rough process," says Hill. "[Before credit repair], we felt like our payments weren't going anywhere."


Future homebuyers may not have to go through the Hill's hassle. As of February 22, new provisions from the Credit Card Accountability, Responsibility, and Disclosure Act will go into effect, helping indebted consumers looking to land a mortgage pay off their debt and raise their credit score faster. Here's now the new laws will affect homebuyers.


Those looking to unload some debt before applying for a mortgage are about to get a much-needed helping hand, says Catherine Williams, vice president of financial literacy for Money Management International financial counseling firm in Houston.


"Credit cards that offer an introductory promotional rate have to make that rate last at least six months," explains Williams. "If someone is applying for a mortgage and needs to pay down debt, they'll be able to get a low- or no-interest card and spend the next six months paying off their balance. That could be substantial."


In addition to offering lengthier teaser rates on new cards, Williams adds that the Credit Card Act will also optimize payments for consumers with old balances. When consumers hold cards with multiple interest rates - for example, a five percent rate on the first $3,000 of debt, and 20 percent on anything higher - their monthly payments currently pay off the cheapest debt first, leaving the pricier debt to accrue. Under the new law, payments will eliminate the more expensive debt first, leaving consumers with lower balances, higher credit scores, and a better likelihood of landing sweet mortgage rates.


"It's just going to help everybody get rid of their debt faster," says Williams. "That's going to make their credit score go up."


"The major thing this act will do for mortgagees is help them be more aware of what their debt utilization ratio is and better understand how to lower it," says Curtis Arnold, CEO of the credit card information web site, Cardratings.com. "Now credit card companies are going to have to warn you about what happens if you keep making that minimum payment, and how long it's going to take you to pay off that card."


Arnold adds that to raise their credit score and qualify for the best mortgage rates, consumers need keep their debt to 10 percent or less of their credit limit.


While the new credit laws won't actually pay down your debt for you, they will help consumers keep track of how much they owe by forcing card companies to print the total amount of debt, how long it will take to pay the debt making only minimum payments and how high the payments will be if the consumers wants to pay off the debt with interest within three years on every credit card statement and to give card holders a full three weeks (21) to make their payments.


"As of late February, the only way they can increase your rates is if you're 60 days late on your payment," says Arnold. "That's going to help mortgage seekers financially plan a lot better."


While the card act may help those carrying credit balances destroy debt faster, it's going to block other consumers from getting credit at all, says David Jones, president of the Association of Independent Consumer Credit Counseling Agencies in Fairfax, Virginia. For those planning to purchase a home in the future, this could have severe ramifications.


"People younger than 21 are going to have a lot of trouble establishing credit early on in their careers because they won't be able to get a credit card without a cosigner," Jones explains. "Because card companies won't be able to tack on new fees or target risky consumers, they might offset those costs by lowering credit limits or raising interest rates. That's going to create a tough situation for consumers who may be trying to get a mortgage."


The good news, Jones adds, is that those looking to clean up their credit before applying for a mortgage will be able to plan their finances much better. According to the new law, if a credit issuer does change your interest rate or card terms, cardholders will be given the right to opt out. Those who do opt out of a rate increase will lose the ability to use that card in the future, but will be given 45 days to find a new card, pay off their balance, and cancel their account. Changes in rates and fees will also only affect new balances, so future homeowners needn't worry about their old debts doubling or tripling days before submitting their mortgage application.


"The ability to say 'no' to new charges is going to give consumers who are looking for the best mortgage rates more control over their debt and their credit score," says Arnold. "It's going to help level the playing field. That 'Wild West' mentality that's been out in the credit card world until now is going away. There's a new sheriff in town."



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How The New Credit Score Will Affect You

Lenders now have a second formula for judging your past, backed by the three giant credit bureaus.

Your VantageScore could look very different from your FICO score.

By Liz Pulliam Weston


The three credit bureaus are touting their new credit-scoring system as a boon for borrowers, easier to understand and more "consistent" than other scoring methods.

Maybe. But VantageScore, which uses the same underlying data about your debts as the FICO score you already know, also poses some serious risks.

Let's be clear: This isn't about making credit easier for the little guy. This is business.

Big business.


Equifax, Experian and TransUnion are private companies that each track your accounts, balances and payment habits.

A credit "score" simply assigns a weight to those factors to produce an indicator of how much risk you show as a borrower.

Fair Isaac's formula (FICO) for scoring is the one lenders like best.

Fico Scores/Reports

Every time an appliance store or car dealership asks one of the credit bureaus for your credit score, the data the bureau has collected about you is sent through the proprietary FICO model.

The lender pays the credit bureau for the score, and the bureau pays FICO for using its formula.

This is quite a lucrative business for Fair Isaac. Credit scoring accounts for 20% of the company's revenues, according to Merrill Lynch analyst Edward Maguire, but 65% of its operating profits.

The bureaus, naturally, want to cut out the middleman.

"They don't like having to pay Fair Isaac for anything,"

said mortgage broker Ginny Ferguson, who teaches credit scoring to her colleagues in the National Association of Mortgage Brokers. "The (credit bureaus) are intent on finding the next area of revenue generation."

The bureaus have tried to break Fair Isaac's stranglehold before, with no success. The VantageScore may be a different story.

Investors certainly think so; they drove Fair Isaac's stock down 6.6% on the day the new scoring system was announced, even though the bureaus hadn't signed up a single lender.

Analyst Maguire rightly called VantageScore "a shot across the bow" of the bureaus and opined that even if the new system didn't replace FICOs, the bureaus could use it as leverage to get Fair Isaac to lower its prices.

We wouldn't have to care about these elephants' battles, except that consumers may be the grass trampled under their feet.


Here are just some of the concerns:


1. Credit score confusion

FICO and VantageScore use two different ranges. The classic FICO scale runs from 300 to 850, while the VantageScore starts at 501 and runs to 990.

The bureaus say the VantageScore range is more "intuitive," because it breaks down like an elementary-school report card:

901-990 equals "A" credit

801-900 equals "B" credit

701-800 equals "C" credit

601-700 equals "D" credit

501-600 equals "F" credit


There will probably be a lot of puzzled borrowers trying to figure out why a number that would qualify them for the best rates and terms under one system - say, a 780 credit score - makes them credit mediocrities under the other system.


2. Consistency

The information in the credit-bureau databases can be wildly different.

You may have accounts reported at one bureau that don't show up at the other two, or you may have successfully disputed an error at two of the bureaus only to have the third refuse to erase the bogus entry.

One of FICO's big selling points for lenders has been the model's consistency.

Even though the bureaus collect and report credit information differently, the same basic FICO model is used at all three to generate comparable scores.


We shouldn't fall for the idea that the new system is superior without more evidence -- so far, VantageScore hasn't been tested head-to-head with FICO.


3. The good, the bad and the ugly -- but mostly the bad

VantageScore is being marketed to lenders as being a better way to separate "good" from "bad" risks including, to quote its Web site, "the ability to classify more bad accounts into the worst-scoring ranges."

Lenders, you see, are often less worried about losing out on good customers than they are about getting stuck with bad ones.

So if a few potentially good risks get wrongly qualified as bad, lenders aren't that worried as long as they avoid the deadbeats.


*** If you happen to be one of those good eggs who's paying higher interest rates or having trouble getting loans, though, you should worry.


Again, the bureaus are quick to say that they haven't tested VantageScore against FICO, so it's unclear whether the upstart actually does sweep more folks into the worst-scoring range.


But the fact that it's one of the bureaus' goals should help you understand the point: this is not about making consumers happier.


4. "Thin" and "Young" credit profiles

One of lenders' beefs about the classic FICO model is that people whose credit histories are "thin" (they have few accounts) or "young" (their oldest account has been established for only a few months or years) can still get pretty high scores.

The lenders grump that these borrowers may pose a greater risk than the scores predict, and that people should have more robust credit files before they reach the top of the FICO pyramid.

Once again, without comparing VantageScore directly to FICO, the bureaus are touting it as a better way to grade people with limited credit histories.

If that means the young or others without "robust" histories get better access to credit to buy homes and build businesses, this could be a good thing. If it means making credit harder to get for those folks, not so much.


5. High switching costs

To say that FICO scores are entrenched in the financial world would be understating the case.

"FICO scores are used by 80% of the 50 largest banks. They're used in 75% of the mortgage loan origination decisions," said Ron Totaro, Fair Isaac's general manager for global scoring solutions. "We're a force because we've been at this for 50 years."

It's not just the lenders that rely on FICO. Most loans today are bundled up and sold to investors, who use the scores to gauge how much risk they're taking with these investments.

Wall Street is comfortable that FICO-scored loans will behave as forecast, Ferguson said, but could be more nervous about the "predictiveness" of a new scoring system.

If lenders begin adopting VantageScores, they might tighten up their underwriting guidelines -- in other words, make credit harder for consumers to get -- while they see how well the loans actually perform.


*** Consumers can stand to reap some benefits from the new score.


For one thing, competition has a way of bringing prices down and forcing companies to improve their products.

But more importantly, the bureaus promise to provide clear guidance about what goes into the scores and how consumers can better their numbers.

How specific that guidance will be remains to be seen, but Kerry Williams, group president of Experian's Credit Services, said that he wants consumers to know exactly how certain actions can affect their scores.

Currently, Fair Isaac offers a FICO "simulator" through the my FICO.com website that can show you how a handful of actions might affect your score.


At the moment we can't buy our own VantageScores, but Experian promises to make them available to consumers in the next few weeks, and the other bureaus say they'll follow suit by the end of the year.

Then we'll have some more information to gauge whether VantageScores really are a better mousetrap -- or just more of the same.



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