Credit score key to lending rate

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April 18, 2004|By Jonathan Azrael

Getting the best rate on a home mortgage depends on your credit rating, your debt ratio and the loan-to-market-value ratio of your real property.

Lenders use these three factors to assign a grade to your loan. A-paper is the highest-quality loan, and D-paper carries the highest risk for the lender.

Credit rating: Lenders review your credit report to see whether you pay late, have defaulted on debts or filed bankruptcy. Borrowers with no late charges for the past seven years usually can qualify for A-paper loans. B- and C-paper loans usually are issued to borrowers who have incurred late charges on mortgage loans, installment loans or revolving charge accounts. D-paper loans are based mainly on the equity in your home, not on your credit.

Many lenders use a credit scoring system to assess credit risk. Three national credit reporting companies, Equifax, TRW and Transunion, supply lenders with scoring systems that predict the likelihood that an existing account or potential borrower will become a serious credit risk.

The higher a borrower's credit score the better the credit risk. A-paper loans usually require a credit score of around 650.

Debt ratio: Lenders generally analyze two income-to-debt ratios.

To qualify for an A-paper loan, your debt ratios typically must not exceed 28/38. The 28 percent (front ratio) measures your monthly housing expenses (principal, interest, taxes and insurance) as a percentage of your monthly gross income. The 38 percent (back ratio) represents your front ratio plus the total of all other recurring monthly loan and debt payments as a percentage of gross monthly income.

Conventional A-paper loans have been made to borrowers with debt ratios as high as 36/42. D-paper loans are made with a back ratio of 65 percent, provided the loan does not exceed 65 percent of the value of the home.

Loan-to-value ratio: Also known as LTV, it looks at the loan amount as a percentage of the market value of the home.

A $150,000 loan on a house appraised at $200,000 will be at 75 percent LTV. The higher the LTV, the tougher lenders may become on credit rating and debt ratios. On the other hand, high LTVs don't deter lenders from making loans to borrowers with good credit ratings and sound debt ratios. Some A-paper loan programs will lend 100 percent LTV and in some cases up to 125 percent.

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