A new bill in Congress could significantly impact your ability to secure a mortgage by changing the way lenders look at credit scores.
In December 2015, two members of the U.S. House of Representatives introduced a new bill. Known as H.R. 4211, or the Credit Score Competition Act, the bill is in its first stage of the legislative process. Although it’s a long way from becoming a law (and your eyes may have glazed over at all that legislative jargon), future homebuyers have good reason to keep an eye on this bill. Proponents say it should help a number of first-time homebuyers compete in the real estate market.
That’s because the bill would push for a new credit-scoring system, one that could potentially allow more buyers to secure funding (and be more competitive in the Portland, OR, real estate market and other challenging markets). But how much will it really help your credit score rating — and how quickly?
What is the Credit Score Competition Act?
H.R. 4211 is a bipartisan bill introduced by Ed Royce (R-CA) and Terri Sewell (D-AL). The bill would impact the Federal National Mortgage Association Charter Act. The core of the bill would require government-backed mortgage institutions — meaning Fannie Mae and Freddie Mac — to use credit scores in the underwriting process of residential home loans “only under certain conditions,” which would include making the process used to validate and approve credit scores publicly available. According to the representatives who introduced the Credit Score Competition Act, this means that Fannie Mae and Freddie Mac could go beyond using the FICO credit-scoring model and use other systems, which is a big deal for those who have a low FICO credit score but are otherwise good home-loan candidates.
The Credit Score Competition Act could help potential buyers who are ready to embrace home ownership but don’t have the credit score or credit history to get approved for a loan.
Why? How would this help potential homebuyers?
Here’s where things get interesting for potential homebuyers. People with credit scores that do not meet FICO’s standards of “good” or “excellent” could be evaluated under different credit-score systems and therefore have their credit rated differently. In theory, this could help those buyers receive approval for a mortgage they might otherwise have missed out on. Because Fannie Mae and Freddie Mac own about 90% of the secondary mortgage market, and they’re allowed to consider only FICO scores, there’s no room for competition in the credit-scoring industry. With such low competition, there’s no reason for companies to innovate.
This matters because not everyone has access to traditional forms of credit that beef up your FICO credit score (think steady income, bank accounts, assets, and months of credit-building history). Proponents who argue Fannie Mae and Freddie Mac should be allowed to look at new credit-scoring systems say FICO’s way of formulating credit scores is unfair to a number of groups, including first-time homebuyers, lower-income families, and minorities. The model currently used to score borrowers is based on data from nearly 20 years ago and excludes millions of people that companies like Experian say are creditworthy but whose scores don’t reflect that under the system in place today.
Will the Credit Score Competition Act help you?
Credit-scoring models currently used in the residential mortgage process judge someone’s creditworthiness on a strict set of criteria but leave out factors that may indicate financial responsibility. For example, right now, FICO generally doesn’t take into account factors such as whether you pay your rent on time. Sometimes, that’s the only way first-time homebuyers can demonstrate they’re capable of handling a monthly mortgage payment. The current credit-scoring model also effectively punishes borrowers who don’t have much of a credit history; a short or nonexistent credit history can drag down overall scores. With this system, if you’re financially responsible, a diligent saver, and debt-free, you could still miss out on a mortgage because you don’t utilize credit in your day-to-day life (some people do prefer to use cash!).
Stay tuned to H.R. 4211’s journey through the legislative process. The bill could positively impact millions of Americans who cannot currently secure mortgages or are forced to pick from less than stellar options simply because the system in place today doesn’t truly measure how financially responsible they are.