The Truth About Credit Scores and Mortgage Delinquency

Today Eileen Ambrose of The Baltimore Sun reported on a study conducted by FICO into the true damage that happens to a person’s credit score when they miss mortgage payments or go through a short sale or foreclosure.  They analyzed how the score would be impacted if you had a high credit score (780) a good credit score (720) and an average credit score (680) and how long it would then take your score to recover back to its previous level if you had no other damaging factors.

The study produced a number of interesting results.  First, it debunked a myth which exists within our industry, and that is that short sales damage your credit score less than foreclosures.  As both are reported as defaults upon your mortgage and both result in losses for the lender, they damage your credit score equally no matter what your credit score was before.  In both short sales and foreclosures, it can take a long time for your score to recover from the damage caused by a default event (3 years if you have a 680 score at the start to rebuild your score to a 680 again, or 7 years to rebuild your score to its starting point if you had a 720 or above).  Now there is truth that you can qualify to buy a home again sooner after a short sale rather than a foreclosure, as both FHA and Fannie/Freddie have rules about how long you must wait after a foreclosure before being allowed to purchase again, and generally those rules are applied in a much shorter amount of time on a short sale (usually 5 year limit for foreclosures and 3 years for short sales).  If you could get your score back above the minimum of 620-640 used for FHA right now within 3 years of a short sale it would allow you to recover faster than a foreclosure…just it would still take another few years to get your credit score back to where it was previously. 

One other thing from the study I found interesting was how badly being a single month behind on your mortgage affected your credit score.  While I always knew the biggest component of a person’s credit score was their history of paying bills on time, I didn’t realize that a single missed payment would affect their credit score by over 10% of their current score!  If a person with a 680 credit score missed a single mortgage payment their score would drop between 60-80 points.  You might think that missing a payment just once when you have a great credit history might be met with a little more forgiveness than if you had a history of missing payments in the past (or a lower score).  Not so…in fact you get hit even worse for missing a single payment if your credit score starts higher.  If you had a 780 credit score and missed one payment your score would drop between 90-110 points off of that one offense (and that can take up to 3 years of perfect credit records to restore your score back up to your previous 780 level). 

What this study really showed was that you have to be on time with your payments if you want to have a good credit score.  Missing even one payment can do damage that can last for years and is far more significant than you might think if you didn’t know better.  This is very important for people to understand, whether you own a home now, intend to buy one in the future, or even just want to be accepted for nice rental homes instead of having to live in low end apartment complexes the rest of your life.  All of these things require good credit scores to do, and it can take years to restore your score once you damage it!  Share this article with those who are important to you so they can better understand what they need to do to protect their credit scores.  Keep Dreaming!

The article from the “Sun” can be found at: http://www.baltimoresun.com/business/real-estate/bs-bz-ambrose-fico-scores-foreclosure20110502,0,1824554.story?page=1