Imagine mortgage credit standards as a roadway, connecting lenders with potential borrowers who dream of owning a home. What in the mid-2000s was a wide-open superhighway with few barriers became, after the 2008 housing crash, a one-lane path open only to the most credit-qualified.
As loan defaults multiplied and banks collapsed, lenders abruptly lost their appetite for risk and abandoned their former “if you breathe, you qualify” loan standards. The Urban Institute says lenders would have issued an additional 6.3 million mortgages between 2009 and 2015 “if lending standards had been more reasonable” — for example, like the pre-housing-crisis home loan requirements of 2001.
With such stringent loan criteria in place, homeownership rates in the U.S. fell sharply, especially for minority households, according to the Pew Research Center.
“Black and Hispanic households today are still far less likely than white households to own their own homes — 41.3% and 47%, respectively, versus 71.9% for whites — and the homeownership gap between blacks and whites has widened since 2004,” Drew DeSilver, a senior writer at Pew Research Center, wrote in a recent report.
Pew research finds that black and Hispanic home buyers have a harder time qualifying for conventional mortgages than white and Asian applicants — and when approved, are typically charged higher interest rates.
In September 2016, Fannie Mae, the government-sanctioned company that buys many of the mortgages that lenders issue, unveiled two new credit scoring initiatives in its underwriting process. Here’s what those changes may mean, especially to borrowers of color.
Trended credit data
Fannie Mae’s automated loan-underwriting system is how nearly 2,000 lenders determine whether a borrower qualifies for a mortgage. Among upgrades put in place late last year was the integration of “trended credit data.” This takes credit reporting beyond simply noting “yes” or “no” as to whether you paid a bill on time each month.
Trended data “actually takes into account the amount you pay, the level of revolving debt that you have and how that relates to your total available debt,” says Mike Mondelli, senior vice president of TransUnion’s alternative data services. It also compares the amount you paid with what the minimum due was.
It’s a 24-month snapshot of borrowers’ payment patterns. That allows lenders to better predict how borrowers might pay their bills going forward.
For example, consider two borrowers. One pays off the full balance each month or makes a payment higher than the minimum amount due. Another makes only the minimum payment due. Both pay on time, but if all else is equal, trended data might help a lender conclude that the first borrower is a lower credit risk.
Use of trended data could move “about 23 million people from a nonprime to a prime score categorization,” Mondelli says.
In 2015, more than one-quarter (27.4%) of black applicants were turned down for home loans, most commonly because of credit history issues, according to Pew research. And people with subprime scores — generally considered to be below 670 — pay higher interest rates.
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Alternative credit data
The updated Fannie Mae system also incorporates some alternative credit data, such as rent and utility payments, when it’s available. Mondelli says that information is just beginning to come into play.
While credit and debit card companies have been adopting alternative credit data, mortgage lenders “are the last” to make such moves, Mondelli says. This initiative could particularly benefit borrowers who don’t yet have a credit score.
Trended data is the focus for now, particularly for mortgage lenders.
Addressing the cause of tight credit
Karan Kaul, a research associate for the Housing Finance Policy Center at the Urban Institute, doubts if either initiative will have a significant impact on minority homeownership.
“It is a step in the right direction, and I think we need this step. We always want to improve our credit scoring models,” Kaul says. “But at the same time … this doesn’t address the root cause of why credit is tight.”
Urban Institute research says lenders, for the most part, are still shying away from loosening lending restrictions because the scars of the housing crash remain fresh. And lenders are concerned about continued legal action and default risks.
“The issue of tight credit is a structural problem that is, unfortunately, at this point deeply embedded into the mortgage market, and it’s going to require a multipronged strategy,” Kaul says.
Are minority borrowers getting a break?
Still, there may be some hope for minority borrowers. Mindy Armstrong Kielmeyer, senior product manager at Fannie Mae, says all 1,800 lenders that use its underwriting system have access to the upgrades.
“Trended credit data provides additional information that we can take into consideration when a borrower is on the border of getting an ‘approve’ recommendation,” Kielmeyer says.
With alternative credit data, lenders can now underwrite loans for borrowers without a credit score. About 15% of blacks and Hispanics don’t have credit scores, compared with 9% of whites and Asians, according to a 2015 report by the Consumer Financial Protection Bureau.
“Since its implementation, we have seen hundreds of loan applications underwritten using this enhancement,” Kielmeyer says.
Due to an editing error, it was unclear in a previous version of this article that “hundreds of loan applications” that were underwritten referred to those of borrowers with no credit score. This article has been corrected.
This article updated Feb. 26, 2018