If you have a credit history that’s tarnished by late payments, legal judgments or even a recent bankruptcy, you may assume that a loan to finance or refinance a home is out of your reach.
Well, think again.
As never before, the welcome mat is out for so-called “subprime” borrowers–people who couldn’t get home loans in the past without paying extraordinarily high rates through what were known as “hard money” lending operations.
Indeed, mainstream mortgage lending institutions, whose primary business is with customers who have high-quality credit, have recently started making subprime loans, too. They include such behemoths as Norwest Mortgage Inc. and Countrywide Home Loans.
Mortgage lenders still make most of their home loans to people with “A” credit, the mainstream market.
But the total amount lent to subprime mortgage borrowers annually has doubled to $100 billion since two years ago. During the same period, prime loans have held constant at $700 billion a year, notes David Lereah, chief economist for the Mortgage Bankers Association of America.
“Subprime lending is a red-hot area,” says David Olson, a mortgage expert and founder of a research firm specializing in the subprime arena.
Despite a robust economy, more Americans have credit problems than previously, due in part to the fact that so many have suffered career interruptions through corporate downsizing. That fact, coupled with the wider profit margins available on subprime loans, has led to the burgeoning growth of what’s known as “B&C lending.”
“Credit quality is deteriorating,” says John L. Lewis, managing editor of Inside B&C Lending, a twice-monthly newsletter for the industry.
The good news for people who have gotten in trouble by “borrowing from Peter to pay Paul” is that subprime mortgage rates are starting to come closer to the prevailing rates offered “A” level borrowers, due to fierce competition among players in the subprime mortgage market.
“Lenders are competing like crazy for that sort of business,” observes Peter Zorn, an economist who directs financial strategy and policy analysis for Freddie Mac, a huge corporate investor in home loans, which recently began buying a small number of subprime mortgages from those who make them to consumers.
Why are Main Street lenders more willing than ever to make mortgages to those once considered deadbeats?
A major factor is the advent of sophisticated mathematical models that better predict who will meet the terms of a mortgage, Zorn says. These new credit-scoring systems have led to more precise classifications of credit quality and given lenders more confidence that they can handle the risks of the subprime market.
“We’ve finally figured out that just because you’ve had a credit problem, that doesn’t mean you’re not worthy of a mortgage,” says Judith Berry, president of Directors Acceptance, a new subsidiary of Norwest Mortgage, which specializes in subprime lending.
“Most people are really honest people. They want to take care of their legal and just debts. But when they get in trouble, often through no fault of their own, we can help them,” says Joe P. Harvey, president of Full Spectrum Lending, the subprime lending subsidiary of Countrywide Home Loans.
Indeed, many who are now borrowing in the subprime market are seeking to refinance their homes in order to pay off consumer debt and restore their formerly strong credit standing. Frequently, they can “graduate” and become eligible for “A” quality mortgage credit within two years, Berry says.
Here are three pointers for those with blemished credit who are seeking the best possible terms on a mortgage:
1. Don’t assume you’re not qualified for an “A” level loan.
Freddie Mac, which has been studying the subject since last year, estimates that 10 to 25 percent of those who were classified as subprime mortgage borrowers probably could have qualified for an “A” level mortgage priced at a prime interest rate, Zorn says.
However, many of those “gray area” borrowers probably failed to fully plead their case for a lower-rate “A” loan or weren’t aware of their alternatives, Zorn says.
Although interest rates for subprime borrowers are now closer than ever to those of prime borrowers, you’ll still pay a penalty in the subprime market. That’s because interest rates on subprime mortgages are typically priced anywhere from 2 to 4 percentage points over the “A” market, as Olson reports, and fees can also mount up.
Sometimes borrowers think their credit problems are worse than they truly are. For instance, you’re not counted as “late” on your mortgage payment simply because you paid a late charge. Only those who make a mortgage payment 30 days or longer after the due date have a strike against them on their credit reports.
Even a bankruptcy one to two years ago won’t automatically put you in the subprime category–if you had a good reason for going bankrupt and can show clean credit since then.
2. Check out several lenders’ rates before you commit to any mortgage. If you truly need a mortgage from the subprime market, you should be very careful to shop around. That’s because prices and fees vary even more widely in this area than they do in the “A” market. However, comparison shopping is tougher to do.
3. Pick a mortgage lender who has been in the field at least two years.
The business is so competitive that a lender or broker who takes unfair advantage of customers won’t survive past the two-year mark,” says Olson. “By two years, the bad ones are out.”
