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Understanding Credit Scores – the full story

Understanding Credit Scores

Recent media reports on changes in credit card legislation and tighter underwriting standards for lending have focused attention on credit scores as a measurement of credit risk.

As reported, banks and lenders are seeking to reduce their reserve requirements and risks by closing consumer credit card accounts, reducing credit line limits and/or raising rates. Taking actions such as these can have an unintentional effect of lowering consumers’ credit scores, affecting even those with a history of excellent scores and timely payments. A lower credit score can, in turn, hinder the consumer’s ability to get new credit and/or credit at an acceptable rate.

Credit scoring is used by lenders, insurers, employers, and landlords as a predictive model of credit risk. Included as a part of comprehensive tenant screenings, the credit score is a tool to help the landlord minimize the financial impact a bad tenant would impose on his business. The key is to understand the factors that comprise a risk assessment score and how changes in overall financial policies and regulations compounded by consumer choices can impact the score.

Reviewing the basics of credit scoring may be helpful to ensure your credit policies are adequate for your business in a changing and possibly difficult economy.

What is a credit score?

The mostly commonly used credit scores are FICO scores as developed by Fair Issac Corporation. There are actually three FICO scores, one for each of the three credit major credit reporting agencies – Experian, Equifax, and TransUnion.

Credit scores may be different at each credit reporting agency since the FICO score considers only the data in the credit report at that agency.

A credit score is calculated using a mathematical equation that evaluates information contained in the consumer’s credit file compared to patterns in millions of other credit files. The credit score number helps creditors assess consumer credit risk. It represents a snapshot analysis of a consumer’s credit history at a fixed point in time.

For a FICO score to be calculated the credit report must contain at least one account which has been open for at least six months and each report must contain at least one account that has been updated in the past six months.

A credit score is objective in that, by law, a score may not take into consideration race, color, religion, national origin, sex, marital status, receipt of public assistance, or the exercise of any consumer right under the Consumer Credit Protection Act. A credit score does not consider age, occupation, sources of income, employment history, residence, interest rates on credit accounts or family support obligations (unless support obligations are a matter of adverse public records).

While a Social Security number and date of birth are needed to order a scored credit report, this information, while identifying, is not factored in the credit scoring model.

Scores will and do change over time as consumers act and react to their specific financial events. Scores can be lower as a result of bankruptcies, judgments, liens, foreclosures, unemployment, increased credit card debt, and missed or late payments.

Credit scores will lag behind changes in the economy since it takes a while for the consumer’s credit actions to be reported and correspondingly rated. This is important to note because while your applicant may qualify now for tenancy with a high credit score, in reality, his score may become significantly lower as missed payments or higher spending amounts catch up to his record. In effect, if you were to run his credit again, you might find he could not qualify under your current credit standards. This is one of the reasons we recommend thorough tenant screenings and not simply rely upon just one number on which to base your rental decision.

FICO scores range from a low of 300 to a high of 850. The three digit number represents the degree of credit risk, i.e. the likelihood of repayment. The higher the score, the less of a credit risk.

There is no single magic cutoff number that major lenders use in their decisions to extend credit. This is a consideration that landlords should keep in mind in creating their own credit policies. In the past, the landlord, armed with his “magic number,” felt reasonably sure that applicants meeting that number were “good enough” for their selection as tenants. However, yesterday’s magic number may not be adequate in light of today’s shifting economy.

Minimum qualifying scores must take into account the potential applicant for the particular rental unit, the local market conditions, and the economy in general.

If your credit policy calls for a number close to “perfect” you may have set too high a standard and effectively limited your applicant pool. Those applicants who could have easily met that requirement in the past may now need to look elsewhere. This is particularly true at this time in history when many otherwise good tenants have had credit scores reduced through no fault of their own, as discussed above second paragraph.

5 Factors of a Credit Score

A FICO score takes into consideration the information contained in the credit file along with a generalized level of importance. The score is an analysis based upon the following five categories of information and the category’s degree of importance. The categories are:

  • Payment history (approximately 35%),
  • Amounts owed (approximately 30%),
  • Credit history (approximately 15%),
  • Types of credit (approximately 10%), and
  • New credit (approximately 10%).

Account payment history is just that, payments on trade lines. This includes credit cards, retail accounts, installment loans, mortgage loans, and other lines of credit. In addition to current outstanding balances, late payments (delinquency) and the severity of delinquency (how long past due) are also factors. The number of past due items on an account is reviewed as well as the number of accounts that have been paid as agreed. Adverse public records and collection items have a negative impact on a credit score. Bankruptcy, judgments, suits, liens, and wage attachments are examples of adverse public records.

The credit scoring model looks at how much is owed on all accounts, how much is owed on specific types of accounts, the number of accounts with balances and how much available credit is shown for each account. The proportion of balances to total credit limits for revolving accounts and the proportion of balances to original loan amounts on installment loan accounts will be a consideration in the credit evaluation. In short, the more money that is owed compared to the credit limit, the lower the score will be.

In general, a longer positive credit history on an account will have a positive effect on a credit score. Length of credit history considers the time since accounts were opened, the specific type of accounts opened, and the time elapsed since account activity.

The type of credit is also a factor in a credit score. A mix of different credit types, credit cards, retail accounts, installment accounts, revolving accounts, mortgage loans, or personal lines of credit, etc. is considered in evaluating the overall credit risk. Too few accounts or too many of one type of account can indicate potential risk.

Recently opened accounts are given consideration as to the number of new accounts and the type of accounts. New credit inquiries, both the number of inquiries and the time period in which they were made, may also have an effect upon the credit score. Some credit bureau models also give consideration to the re-establishment of positive credit history after past payment problems.

Finally, we remind you that attention should be paid to other information on the credit report in addition to the credit score number. There are many things that can lower a credit score which should not necessarily disqualify an applicant. For example, a recent bankruptcy will certainly cause the score to be lower, but, depending on the details of the bankruptcy and other factors, may actually indicate a preferred applicant because a tenant without a bankruptcy on record can file for one at any time whereas one with one on record cannot file again for many years after the previous filing.

About the Author

YouCheckCredit.com has been providing online credit reports and background checks since 2000. If you have any questions, we can be contacted at YouCheckCredit.com, 3822 Campus Drive #200, Newport Beach, California. Toll Free number 1-866-666-8833 or Articles@YouCheckCredit.com

Are you POOTAing??

A few months back some people were asking about how to determine how much to charge for rent on their properties. It was obvious that a number of people were using the POOTA method to determine their rental charge and were going into the real estate rental business BACKWARDS. Before you buy a rental property, you should know the going market rents combined with the vacancy factors, interest rates, detailed property repairs and various other costs to compute a Maximum Profitable Offer. NOT buy a rental property and then wonder how much to charge for rent.

I think what is even sadder is people buying a house to FLIP – spending the money and time to rehab it, then put it on the market and discover that they can’t get what they need for the property THEN they become the accidental landlord. Pretty soon, they are sitting in Sarah Taggart office talking about evicting a problem tenant. Note – they should have seen Sarah BEFORE obtaining the tenant to have her review their lease and other paperwork – but they probably just POOTA’d that too. Or even worse than that they are sitting in Stan McDonald’s office TWO TIMES – once for the happy occasion of closing and next for the NIGHTMARE of having Stan and Stewart save them from foreclosure.

Incidentally the POOTA** method is Plucked Out Of The Air – Absolutely NOT a method to use in real estate!

I just discovered an inexpensive software that computes your MPO which is much better than a POOTA O! Maximum Profitable Offer compared to a Plucked out of the air offer. Best thing is you can do a FREE 14 day trial AND learn how to do it scientifically instead of just POOTAing around.

Here is the link – That is not me POOTAing!

Screening in a Bad Economy – Full Story

As we move toward the end of the year, high unemployment rates continue their impact on rental housing affordability and availability. Landlords are facing increased competition for qualified applicants to fill their vacancies. In some markets, properties are staying vacant much longer than even just a year ago. It is a renters market in many areas of the country where supply of rental housing exceeds the demand, sometimes by significant margins. How much of an impact the current economic conditions have on your business may well be determined by your perspective.
While it may be true that the pool of applicants to fill vacancies is likely to include less qualified applicants and while it is true that more people are unemployed and/or have had other problems that affect their rental qualifications, logic would indicate that an unemployment rate that is 5 percent higher than usual does not translate into 100 percent of applicants being unqualified.
So while it isn’t business as usual it is still business. As we have discussed before, risk management becomes ever more important during changing conditions. Tenant screenings remain a critical component of risk management practices.

Unfortunately, we are seeing evidence of landlords reducing screening efforts based on their thinking that there is now less reason to bother with screening because all applicants will have blemished credit records. Unless this is your first landlord experience, you will have come across bad credit scores before. Current conditions notwithstanding, what was your procedure to accept or reject?
However, we believe landlords should be putting even more effort into adequate screening during bad times using a wide variety of screening tools.

While landlords may choose to lower the minimum qualifying credit score, some of the risks of doing so can be offset by more aggressively utilizing other screening tools. This includes a closer examination must be made of the other detailed information provided on credit reports, more extensive rental history checks with previous landlords, check of eviction records in multiple jurisdictions, careful employment and income verifications, and extensive criminal record checks.

A brief review of some of those screening tools follows.

Credit Reports
A credit report is the most important screening tool and should be utilized even if no other tool is used. It is the one tool that does not require cooperation of previous landlords, cooperation of employers, knowledge of which county in the country may have a record of eviction, or knowledge of which state or county may have a record of conviction. Furthermore, credit reports provide a variety of information that often provides clues regarding which of the other tools might be useful and which state or county should be of interest.
With a full credit report, you can corroborate information shown on the rental application; review the individual’s payment history including credit accounts, account balances, and collection accounts; and view reports compiled from public records on bankruptcies, liens, and judgments. You also see who has recently requested a copy of the applicant’s credit report.
If the report shows a positive pattern of responsible credit management before the date of a significant affecting event (foreclosure, bankruptcy, major medical bills, divorce, etc.) you could infer that the event was the contributing factor resulting in derogatory items in the credit file. While the event cannot be overlooked, the data can be analyzed in the overall context of credit use and payment history. As is often the case, honest discussion of events with the applicant may give more detail that may allow the applicant to be considered for the vacancy.

Past Rental History
It is important to check each applicant’s rental history in addition to his credit history because many types of tenant problems do not make their way into a credit report.
When checking rental history be sure that you are really speaking with the actual past landlord. There are many ways to do this including checking ownership records and obtaining the correct phone number independently of the applicant.
Some current landlords may be unwilling to say anything derogatory about bad tenants because they would like to be rid of them and would be happy to transfer the problems to you. Accordingly, it is always best to also contact the applicant’s landlords prior to the current one, the reason most experienced landlords require the applicant to provide rental history for at least the past three years. For an applicant who has rented the same unit for more than a few years, it can be difficult to get history from more than the current landlord, but a long-term tenancy often is indicative of a good tenant.
At a minimum, you will want to confirm basic information such as dates of residency, the rent amount, the security deposit amount, and whether the landlord would rent again to this tenant. If only one question could be answered, it would be “would you rent to this tenant again?”

Employment & Income Verifications
Employment and income documentation can consist of requiring the applicant to produce the last several paycheck stubs. Note that last year’s W-2 provides no certain information regarding current income, although it might be useful as additional verification if other items are questionable.
Self-employed individuals can be asked to provide copies of 1099s and tax returns (as can employee applicants), but one must keep in mind that it is easy to createW-2s, 1099s, and tax returns that say whatever is desired using a personal computer.
Verification of non-earned income, including interest, dividends, and other investment cash flow and entitlement items, including disability, social security, and private retirement, are all relatively easily verified because the recipients are provided official statements of the amounts.

Eviction Searches
It is good practice to conduct a search of eviction records as recorded in the court of jurisdiction for the counties where the applicant is known to have resided. You may want to review the rental application, the applicant’s driver’s license or motor vehicle registration, and current/previous address history as shown in the credit report to determine applicable search areas. Most tenant screening vendors offer regional, statewide, and national eviction searches of landlord-tenant filings.

Criminal History Checks
A criminal history check generally includes a search of statewide, multi-state, or regional criminal records databases and sex offender registries. For a more detailed search, most screening vendors can provide a “hand search” of a specific county’s criminal records index and court documents.
Criminal background reports generally include the defendant’s name (and any aliases), the defendant’s date of birth, gender, race, physical description, dates of the offense, and the date of disposition or conviction. To help ensure accurate results, be sure you have the correct spelling of the applicant’s full name, a verifiable date of birth, and a list of known aliases used by the applicant before purchasing a report.
A search of convicted sexual offender records may be included in a comprehensive criminal report or in case of some vendors, ordered as a separate report. Be aware, however, that some states restrict the use of this information to deny housing.

In general, landlords are free to reject someone with a criminal background, as ex-cons are not a protected class under federal fair housing laws. An exception is that past drug use, even when resulting in a conviction, is considered a disability under federal law. Those currently using drugs or those who have been convicted of drug manufacturing or dealing are not protected. Landlords must also consider any protections provided by state or local laws.

About the Author
YouCheckCredit.com has been providing online credit reports and background checks since 2000. If you have any questions, we can be contacted at YouCheckCredit.com, 3822 Campus Drive #200, Newport Beach, California. Toll Free number 1-866-666-8833 or Articles@YouCheckCredit.com

Time Alone

A Quiet Place
A Quiet Place

When is the last time that you took an hour off from the world?

No cell phone, no book to read, no person to talk to.

Just you by yourself!

I challenge you to stop the holiday rush for a moment, grab a cup of tea or your favorite drink, and find a quiet spot.

Sit and reflect on 2009 and past years –

what are you thankful for?

What things would you do different and why?

What regrets do you have?

What has held you back from reaching your goals and dreams (ouch-this might hurt!)

Now move to 2010…

What are your dreams for this year – DREAM BIG!

What are your goals for the future?

Who would you like to spend more time with? Why?

What are you going to do to overcome your obstacles?

Who do you need to eliminate from your life?

Who do you need to add into your life?

What new habits do you need to add into your life?

Make a plan to have regular dates with yourself in 2010 – ALONE with yourself!

You might be amazed at what you learn…..

Happy holiday season – enjoy the time with family and friends!

First Impressions

One of the first impressions you can have of a person is their handshake. Is it a pleasant firm handshake or a limp damp handshake or a hard knuckle cracking handshake? That first touch can say a lot.

When a client enters a home for the first time, that hand on the door handle is a handshake – it conveys a lot about the house. Does the door feel solid and secure or cheap and flimsy or hard to impossible to open? Does it swing open quietly or squeak and moan loudly as it is pushed open? Is the surface clean and pleasing to touch or covered in spider webs and dust? Is the handle solid or about to fall off? Remember this is your client’s first impression – their first handshake.

I have been on the hunt for a door for my rehab that says welcome to a peaceful haven. My door had to be solid wood – heavy enough to say safety and beautiful to enhance the home. I finally decided on a magnificent craftsman style door with windows at the top. I priced the door at a number of places and had prices of $3200 to over $4000 PLUS I would have to wait 21 days or more for it to come in. Patience is not one of my virtues.

THEN I went over to see Mike at Surplus Warehouse. I walked in the front door and THERE WAS MY DOOR!! The exact door I had been pricing – a beautiful solid mahogany door! I was shocked when I looked at the price – just under $1000! Incredible! Needless to say, that door is in my possession!

Pulling Building Permits

Yesterday I went to the Madison County Inspection Department and pulled a building permit for my rehab job. Since I own the home and I am serving as the contractor, I am allowed to pull the permit. I did not pull the permit for the electrical, HVAC, or the plumbing as I will let the contractors who do that pull their own.
Wonder if you need to pull a permit? Below is an excerpt from the inspection website (www.co.madison.al.us/inspection).
“If you construct, enlarge, alter, repair, move, demolish, or change the occupancy of a building or other residential structure, or to erect, install, enlarge, alter, repair, remove, convert or replace any electrical, gas, mechanical or plumbing system, the installation of which is regulated by this code, or to cause any such work to be done whenever the reasonable cost of the material and labor for such work is in excess of One Thousand Dollars ($1,000.00), you shall first make application to the Inspection Department and obtain the required permits. Whenever the work being performed includes any construction, alteration, addition, or modification to the plumbing drainage system, or requires disconnection of the electrical system in any way whatsoever, any owner or authorized agent shall first make application to the building official and obtain the required permit regardless of the reasonable cost of the material and labor for such work. Other work requiring permits and inspections include: roofing, re-roofing, window replacement, siding, swimming pools and spas, and all commercial work regardless of cost.” from www.co.madison.al.us/inspection

Be smart – pull permits – whether it is you or your contractor – pull the permits. If you get caught doing work without permits, they WILL shut your job down and fine you. Be extremely wary of contractors who want you to pull your own permits! I am pulling my own BECAUSE I am acting as my own contractor.

Here are the things you will need to pull your own permit:
1. Itemized list of repairs to be done along with the cost.
2. Letter from insurance company – since it was a fire damaged house.
3. Proof of ownership – he asked for it and I said you can get it online and that seemed to satisfy him.
4. A Check – they do not accept cash.
5. Floor plan/blueprints – if you are building new or doing major renovation

Your permit is null and void if work or construction authorized is not commenced within 6 months or if construction or work is suspended or abandoned for a period of 6 months at any time after the work is started.

On my list of repairs, I had to include everything – paint, flooring, HVAC, electrical, plumbing, lighting, kitchen cabinets, appliances, etc. Even the 3 things I was not pulling permits for – HVAC, electrical, and plumbing- were added into the cost. The total cost of my permit was 1% of the valuation of repairs – OUCH!

On my particular project, I have 3 required inspections:
First rough-in inspection – conducted once rough framing, electrical, plumbing, mechanical, and gas are complete prior to any insulation or drywall.
Second rough-in inspection – conducted after corrections have been made from previous inspections and prior to installation of drywall (after my insulation is installed).
Final Inspection – structure and landscaping completed. This gives me my coveted CO (certificate of occupancy) which allows full power to be turned on!

Pulling permits is an extremely important item. You do not want to be on the bad side of the inspection department.

Managing temporary workers

Someone once told me “Don’t use skilled labor to do unskilled labor work!” So when I need unskilled laborers, I use laborers from a temporary service. But a word to the wise, you can not leave them unattended and expect to get your money’s worth! They must be supervised! So here are my hints to get the most work from them:

1. Treat them like a person. Remember their names and ask them about themselves. Once when I was young, I moved to a new town and was unemployed. I enrolled with temporary agency until I could find a full time job. The experience was horrible at most jobs – I was an invisible nobody! Nobody bothered talking to me – I was given a job to do and ignored. I had some excellent skills and was eventually hired by one of the companies BUT the other companies never bothered to find out anything about me therefore they never capitalized on my skills. I constantly find workers who can do a multitude of skilled labor at an unskilled laborer price – sheetrocking, painting, brick work, carpentry – all because I asked.

2. Buy them lunch and snacks. You would be surprised how much goodwill snacks and a lunch will get you. A lot of these guys are trying to get back on their feet and not having to spend an hour’s pay on lunch is really appreciated.

3. Role Model. I actually will work side by side with my laborers. Yes, I know you should delegate but I can get so much more work from them when they see how hard I am willing to work AND that I am not too good to work along side of them. Even if you don’t have the time to work constantly with them – make an effort to carry out something to the dumpster or some other task.

4. Outline what you expect to accomplish that day. First thing in the morning, I go over what I want to happen then I give them choices about which job they would like to perform first. I ask them how long they think it will take them to do the job then I ask them if they think we could do it in a shorter amount of time.

5. Bonuses. If I really have a job that I want to accomplish that day – I am not above offering them an extra $25 or so if we
complete the job that day. $25.00 can be a lot of extra money when you only make $7.00 or $8.00 an hour.

6. Have all the need tools and supplies. There is nothing more frustrating that not having the needed tools. I mark my tools and do a tool count at the end of the day. But you are wasting your time if you have to go get tools or supplies or a dumpster and they are just standing around with nothing to do.

In summary, I accomplish a lot in my rehab jobs by hiring temporary laborers. By utilizing the temporary services, I do not have to worry about workman’s comp or payroll taxes – a big headache. Nor do I have to constantly scout for workers, if they do not work out, I don’t have to use them.