The Risk of Being Too Responsible

Phew, it's been a while. Two months since my last post?! What can I say? Life happens. Let's keep moving forward...

Currently I'm in the middle of a unique mortgage situation with great clients who are looking to buy a house in Berkeley, relocating from Southern California. They are realistic about their price range, pleasant to talk with, and she is an information sponge -- my favorite! They are sharp and extremely responsible with their finances. They've been planning to buy their first home for some time and in doing so have managed their credit accordingly. They have essentially no debt and are planning to have a down payment of over 20%. And yet, I can't approve them for a loan.

What's wrong? What happened? Her credit is impeccable, he has no derogatory issues whatsoever. But he also has no credit score. Not a one. Imagine you pay your one credit card bill in full every month, you paid off your student loans years ago, you have no car loan, no mortgage, you are in the black every month. Sounds like a good way to be financially responsible, but the problem is that without enough recent credit history you fall off the face of the credit world.

Banks want active credit history within the last 6 months. They want more than one line of credit. They want a recent track record with a history. Car loan, student loan, mortgage, credit cards, whatever you've got. The lending institution, whether you're looking to buy a house, car, or new shoes, needs to know you will pay it back; to make that judgement, they look to see proof that you pay your bills on time and you can manage the responsibility of debt and/or available credit.

In this case, hubby wanted to be rid of his student loans -- what can that hurt, right? Get rid of tens of thousands of dollars of debt -- that's sure to help your credit score. The thing is, banks look at different kinds of debt differently. For example, a student loan, while carrying a higher balance, is looked at more favorably than the lower running balance on the Macy's card. Why? For one the balance on the student loan isn't going up (typically) and the interest rate is essentially fixed about as low as you can get where debt is concerned. Also, it's a loan for education -- to essentially raise your earning potential. On the other side, the Macy's card has a high interest rate (22.9% as I type this) and you, as the consumer, can increase your balance on a whim (max out the card? I'm sure Macy's would be happy to increase your limit).

So as I mentioned earlier, this particular couple had no Macy's card, no running balances. They had one active credit card and paid the balance monthly. We tried to use this fact to pull a score out of at least one of the reporting agencies (Equifax, TransUnion, Experion), but as it turns out that card was showing a dispute. A couple months ago there was a charge on the card that was invalid. The couple disputed it and won. But the card company hasn't yet removed the dispute status from their account, so now, as long as that shows as being in dispute, for credit report purposes, the account is essentially frozen (even though it's not).

Things weren't looking good. Things were looking like FHA was the only answer (FHA is the last program that allows non-traditional credit assessment; they'll look to your history of paying rent, utility bills, etc. to determine credit). FHA is a great government program for people with low down payments. Here, though, the problem becomes that all FHA loans require mortgage insurance, regardless of down payment (conversely, non-FHA loans only require mortgage insurance with less a than 20% down payment). Since my clients had more than 25% to put down, FHA's added cost of mortgage insurance (about $120/month as it would be) plus higher costs to get the loan to begin with was certainly not our favorite option.

Keep in mind that this family is relocating and under pressure to find a place to live. Sure they could rent a while until this all got worked out -- but realistically, building credit history can take a year, maybe two. They certainly don't want to rent for two years, not when the market is good to buy -- house prices are low, interest rates are low, and the timing for them is now. It's my job to find a way to get them money to buy a house and to do it correctly & honestly so that the rug is never pulled out from under them (but that's the only way I work anyway).

I have my work cut out for me on this one. Many calls to make, research to do, numbers to run. Come back tomorrow to find out how things are working out, this post is long enough as it is.