Should homebuyers worry about second credit check?
Deals can slide south with lenders pulling back-to-back credit profiles before a sale closes.
This post comes from Marilyn Lewis of MSN Money.
Surprise! Just when you thought your mortgage loan was in the bag, your lender is likely to pull your credit report again, just before your home purchase closes. For most, it's an annoyance. But for some buyers, a second check jeopardizes the entire home purchase.
The source of the extra scrutiny is a rule change by Fannie Mae, the government-run mortgage company that buys your loan from your banker. (Read Fannie Mae's .pdf document on its Loan Quality Initiative.) Fannie is trying to make sure it doesn't get stuck with more bad loans.
Kenneth R. Harney explains in this Washington Post article:
The last-minute credit report will be designed to find out whether you have obtained -- or even shopped for -- new debt between the date of your loan application and the closing. If you've made applications for credit of any type -- for furnishings and appliances for the new house, a car, landscaping, a home equity line, a new credit card, you name it -- the closing could be put on hold pending additional research by the lender.
Traditionally, lenders checked credit reports once, when you applied for a mortgage. But it's not unheard of for a lender to take another look before the sale closes.
Now, however, second looks are becoming commonplace. Many buyers experience a shock at being scrutinized a second time, not to mention the annoyance of having to shell out another $10 or so for a new credit report.
And for some buyers, the second look can mean disaster. Opening a new credit card or buying something on credit after you're approved for a mortgage can change your credit score or your debt-to-income ratio, ruining your deal, or at the least forcing you to reapply for the loan.
It might even put your earnest money in jeopardy or make you liable in a contract dispute, warns Northern Virginia Realtor Doug Francis in his blog:
For example, if they see that you now have a credit line at McLean Furniture for $10,000 that wasn't on you first report, well, then you've got some 'splainin' to do.
This extra scrutiny may just blow your deal, cost you the earnest money deposit and open you up to pay extra damages to the seller for breach of contract (please include attorney's fees).
Borrowers at biggest risk are "borderline" borrowers, "with a 620 mid-credit score in today's climate and/or higher debt-to-income ratio," writes Seattle mortgage broker/blogger Rhonda Porter (in a post on the Rain City blog).
What to do? (Read how to be the perfect borrower: "Buying a home? Make lenders love you.") Harney's guidance is this:
How should homebuyers and refinancers prepare for the new credit check procedures? Lenders and credit-reporting company executives say everybody needs to follow just one basic rule: abstinence. Between your application for a mortgage and the date of closing -- which might be a span of 45 to 60 days or more -- resist the irresistible.
Don't apply for new credit unless you discuss it in advance with your lender and get a green light.
Actually, this always has been prudent advice. It just matters more now, with lenders and banks so jumpy about getting stuck with a bad loan.
Look at it from the bank's perspective: "Borrowers should understand that the loan application is intended to represent their financial scenario," says Porter.
Your lender, or the investor who purchases your loan, is on the hook if you stop making mortgage payments, so banks are also putting extra effort into uncovering mortgage fraud.
Fraud -- by lenders, borrowers, appraisers, brokers and a whole range of con artists -- was rampant during the housing boom. It's behind many loan failures today. Analysis of bad loans shows, for example, that a good number of borrowers who said they intended to live in the homes they were buying never really lived there. (Investors and second-home buyers are charged higher interest rates.)
It's also potentially fraud if you aren't up front about your income (read "Emerging fraud trends -- false stated income" at the Freddie Mac site.)
Will Fannie take it back?
Lenders and even regulators may have looked the other way a few years ago, but they're grimly serious about borrower fraud today. The extra credit checks also are intended to help uncover discrepancies that might uncover fraud.
As SmartMoney explains, it's all part of a larger effort to stop foreclosures:
Fannie Mae's new Loan Quality Initiative, which took effect June 1, is part of the mortgage giant's effort to improve loan quality and cut down on the kind of shoddy underwriting that helped crush the housing market, and ultimately make it unnecessary for there to be so many loan repurchases, says Janis Smith, a Fannie Mae spokeswoman.
It's essentially another measure to tighten underwriting standards. "Foreclosures are so numerous now, that Fannie and Freddie are in a rolling credit-tightening panic trying to never again make a loan that is going into default," says Lou Barnes, a mortgage banker in Boulder, Colo. And the initiative, he says, will probably "blow up an unknown number of closings because of mistaken or ambiguous findings in new credit reports."
What happens next? It's possible that the policy won't last. The back-to-back credit checks are making lenders and borrowers anxious, says The Washington Post.
With lenders screaming, the Post says Fannie is "reviewing the policy." A Fannie official says the intention wasn't for lenders to subject borrowers to additional credit reports, only to underscore the importance of due diligence.
Will Fannie take it back when it offers "more guidance" at the end of this month? What's your guess?
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