Wiles: Loan changes may not hurt your creditby Russ Wiles on Mar. 13, 2009, under Edge
Now that the Treasury Department has fleshed out more details on its mortgage-modification effort, it raises the question: Will homeowners who seek to change the terms of their loans get penalized on their credit scores?
They could, but it’s also possible a modification could improve matters.
Credit scores reflect the information compiled by credit bureaus in consumer-credit reports, as reported by lenders. Scores obviously affect your access to loans and the interest rates you pay, but also are factored in for other things, such as the availability and cost of insurance. Hence the wisdom of not hurting your score.
With a loan modification, the credit-scoring impact will depend on how lenders report activity to the bureaus, and that could vary, said Barry Paperno, a manager at Fair Isaac Corp., which developed FICO scores.
Anything hinting of a loan not being paid on time or as agreed could hurt. It’s also possible that a modified loan could be reported as a new loan, which could cause a slight score decrease, he said.
If you’re delinquent at the time of applying for a mortgage modification, your lender likely will report any late or missing payments as demerits. But it would do so even if you didn’t apply to change the terms of your mortgage.
“The modification itself shouldn’t do any damage,” said Ben Woolsey, director of marketing and consumer research at creditcards.com.
Another issue reflects loan modifications that specifically involve a principal reduction. Under the Obama plan, lenders first will be asked to cut interest rates to help lower monthly payments for borrowers. Then they might need to extend the length of the loan. After that, some might agree to reduce the principal.
“If you write down the principal, that could be a negative if considered a debt settlement,” said Mike Sullivan, director of education at debt-counseling firm Take Charge America in Phoenix.
Then again, a principal reduction could make a huge difference in helping you retain your home.
“If you avoid foreclosure, that’s very good (for credit scoring),” Woolsey said.
Actually, the Treasury doesn’t require modification applicants to be delinquent.
“My suspicion is that if you continue to make payments, a modification won’t affect your score and could help by allowing you to stay current on payments,” said Ethan Ewing, president of bills.com.
Credit scores thus are a factor to consider if you apply for a loan modification, but not the main one.
“If you’re in that bad of shape (to seek a modification), I’m not sure if your credit score should be your primary concern,” Sullivan said.
• Fair Isaac recently tweaked its FICO credit scores in ways that could help some people and hurt others. The changes were analyzed by bills.com.
The changes aim to “help lenders better gauge actual risk by better differentiating good customers who have made one mistake from people who have multiple delinquent accounts,” Ewing said.
One positive is that small debts below $100 for things like unpaid parking tickets or other minor bills won’t count as heavily as before. Even one serious issue, such as a vehicle repossession, won’t factor as much if other accounts are current, Ewing said.
Among negatives, Ewing said consumers now could be hurt a bit more if they close accounts that they opened fairly recently or use a high percentage of available credit.
The basic rules for good credit remain unchanged. They include paying bills on time, using a mix of credit and keeping balances low.
• Will more credit-card companies offer incentives in hopes of encouraging risky customers to pay off balances and close their accounts?
American Express might have started a trend last month with an appeal to certain customers with high balances and little activity. Those who agree to pay off their balances and close their accounts by April will get a $300 prepaid gift card.
“I can definitely see other credit-card issuers who are being bitten by a rotting portion of their portfolio pulling this one out of their bag o’ tricks,” wrote Bruce Cundiff at Javelin Strategy & Research.