2nd Myth: “Only a deadbeat would file bankruptcy” Fact: The vast majority of bankruptcies are filed when the debtor incurs substantial medical bills, loses a job, or goes through divorce. Most debtors would go to any length to avoid bankruptcy, but often times they are unable to because of the high interest rates on their credit cards.
3rd Myth: “If you are married, both spouses must file bankruptcy.” Fact: A spouse may file separately and the filing of the bankruptcy will not affect the credit of the non-filing spouse. Oftentimes all the debt is the name of only one spouse. This is especially true after marriage where one spouse realizes the other spouse is bringing a huge amount of debt to the marriage.
4th Myth: “You may run up your credit cards prior to the filing of the bankruptcy.” Fact: Any debts incurred during the anticipation of the bankruptcy may be determined non-dischargeable. Those debts would have to be repaid.
5th Myth: “If I file bankruptcy, I will never get credit again” Fact: Usually when you start to contemplate bankruptcy, you know that he or she is unable to continue making payments on their credit cards and other bills. If you know your credit isn’t already ruined, it will be ruined very shortly. The Chapter 7 bankruptcy will actually improve your credit as the credit bureau reports will reduce all outstanding unsecured debt to $0.00. Typically, you will be able to re-establish your credit within 2-3 years if you have a steady job.
Credit scores are used extensively, and if you’ve gotten a mortgage, a car loan, a credit card or auto insurance, the rate you received was directly related to your credit score. The higher the number, the better you look to lenders. People with the highest scores get the lowest interest rates.
Scoring Categories Lenders can use one of many different credit-scoring models to determine if you are creditworthy. Different models can produce different scores. However, lenders use some scoring models more than others. The FICO score is one such popular scoring method.
Its scale runs from 300 to 850. The vast majority of people will have scores between 600 and 800. A score of 720 or higher will get you the most favorable interest rates on a mortgage, according to data from Fair Isaac Corp., a California-based company that developed the first credit score as well as the FICO score.
Fair Isaac reports that the American public’s credit scores break out along these lines:
Each of the three major credit bureaus use their own version of the FICO scoring method — Equifax has the BEACON score, Experian has the Experian/Fair Isaac Risk Model and TransUnion has the EMPIRICA score. The three versions can come up with varying scores because they use different algorithms.
The Big 3 are working on a new model called VantageScore, but have yet to launch it to the mainstream.
What’s the Big Deal? No matter which scoring model lenders use, it pays to have a great credit score. Your credit score affects whether you get credit or not, and how high your interest rate will be. A better score can lower your interest rate.
The difference in the interest rates offered to a person with a score of 520 and a person with a 720 score is 4.36 percentage points, according to Fair Issac’s Web Site. On a $100,000, 30-year mortgage, that difference would cost more than $110,325 extra in interest charges, and make for a difference in the monthly payment by about $307.
Key Factors of Your Score There are five primary factors that account for the magical credit score which determines you acceptance or rejection for most loans or credit cards, and strongly influences the interest rates or total cost for you to borrow the funds. The following is a very basic overview of the five most important factors in determining your credit or loan score (aka FICO score). It is worth noting that the three major credit bureau all calculate their scoring models slightly differently, so what I have presented is a slightly blended overview, but it will give you the most important factors and an a rough relative weight in the credit scoring process.
How Payment History Affects Your Credit Score – 35%
Payment history accounts for about 35 percent of your credit score (this will vary depending on the scoring agency). It makes sense that this would be a top factor; since someone with a long history of never missing a payment is likely to continue to be a safe person to lend money.
If you do have negative marks on your credit score, three factors will determine the size of the deduction to your credit score:
• Time Since The Event – how long ago did you miss a payment? If it was a long time ago, and you have a good payment history since that time, it will not affect your score very much. Whereas a recent missed payment will cost more against your credit scoring.
• Number of Missed Payments – obviously matters. One missed payment in ten years of good history won’t matter very much, but the more missed payments in your history, the more risky you are seen to be and this will be reflected in a lower debt score.
• How Bad Was The Blunder? – being late or missing one credit card payment is a small deduction. All the way up to having a bill going to a collection agency.
How Much You Currently Owe – 30% If you think of your credit score as a kind of “worry index” for lenders, you’ll understand why how much of your possible credit you are using would be a concern for lenders. Think of this aspect of credit score as a percentage. The amount you owe on all possible credit sources (credit cards, auto loans, home loans, your current mortgage and so on) divided by the total of all credit available to you. To put it into perspective, statistically most Americans use less than 30% of their available credit and only about 12% use more than 80%. How much you currently owe compared to your total available credit accounts for about 30% of your loan score. Knowing this straightforward measurement, to improve your score, simply pay down any loans and avoid the temptation to get cute and improve your ratio by getting a larger amount of “available credit”. As we’ll see in the next sections, this can actually hurt your credit score more than improve it. In general people who have a debt scenario near to or at the limit of their credit are much more likely to default and therefore are given a lower credit score.
How Long You Have Had Credit – 15% The amount of time you have had credit accounts for about 15% of your credit score, with favorable weight going to those who have had credit for the longest time. The reasoning behind using time as a credit score factor is because in time it is easier to establish patterns of behavior.
Your Last Application for Credit – 10% The typical American consumer last applied for some sort of new credit 20 months ago. Recent credit applications can indicate a “need” for money and needing money is a negative factor on your credit score. Your last credit application date accounts for about 10% of your total score. In fact, even having many lenders check your credit score can have a negative impact on your credit score, so make sure you don’t authorize lenders or banks to “pull” your credit score unless you are in fact, seriously shopping for a loan or other credit instrument. Ordering your own credit score report from one of three bureaus should not count as a negative on your actual credit score.
The Types of Credit You Are Using – 10%
In short there are two major types of credit: revolving and installment.
Installment loans are items like car loans and mortgages. Revolving are credit cards and the like where even if you pay them in full, you still retain the credit to use it again. Generally credit cards are seen as higher quality revolving credit, than department store cards. And mortgages are seen has higher quality than revolving credit, simply because they are more difficult to obtain.
The type of credit you are using represents about 10% of your score, and a higher score is give to people with a blend of credit from various sources. This is seen as a reflection of trust, due to each credit card or loan being seen as an endorsement from a different company.
What Does Not Count In A Score
The scoring model doesn’t look at:
• job or length of employment at your job
• marital status
• whether you’ve been turned down for credit
• length of time at your current address
• whether you own a home or rent
• information not contained in your credit report
A lender may consider all those factors when deciding whether to approve a loan application, but they aren’t part of how a FICO score is calculated.
Credit scores are not perfect The major drawback to credit scoring is that it relies on information in your credit report, which is quite likely to contain errors. That’s why it’s critical that you check your credit reports annually, or at the very least three to six months before planning to buy a house or a car. That will give you sufficient time to correct any errors before a lender pulls your score.
Effect Bankruptcy has on your Credit Score A bankruptcy can legally stay on your credit report for up to a decade, but the effect on your overall score will immediately diminish as soon as your bankruptcy case is closed. Even though it’s tempting you can’t live on a cash basis to rebuild your credit. You’re going to have to get out there, open up a few charge cards and your score will come back – given enough time. Treat a bankruptcy as a wake up call to change bad habits. After you file bankruptcy, your credit is compared only with those people that have filed bankruptcy. So, if you manage your finances well, you can increase your credit score higher and faster than you would be able to do outside of bankruptcy. This should not be seen as a reason to file bankruptcy. I point this out to counteract the misinformation about the effect of bankruptcy on your credit.
Is it Possible to Get a Mortgage after Bankruptcy? In a word, “yes”, even after bankruptcy it’s possible to obtain a mortgage loan. In fact, after a bankruptcy has been discharged, it may be surprising just how soon it’s possible to obtain a mortgage loan… some lenders have programs which will enable a borrower to get a mortgage just one day after discharge. The “ins-and-outs” of how this can be achieved varies greatly from lender to mortgage lender… ranging from lenders who make it quite easy to those lenders who nearly don’t do it at all. It can be a complicated issue which can usually only be viewed on a case-by-case basis. But the point is, borrowers or buyers who have had the misfortune or need to use the bankruptcy laws for relief need not despair regarding their ability to buy their own home.
Obtaining a Mortgage soon after Bankruptcy Such mortgages are provided by companies that are known as “alternative” lending services. They will charge sky-high interest rates and fees in exchange for acquiring your “risk”. They often also have very specific criteria for determining eligibility for your program. If you are able to wait on your mortgage, then you probably will want to do so.
Most lenders will want you to wait about two years before borrowing a mortgage loan, but some will consider you before this point (after about six months or so). In this case, they will have to determine your eligibility based on criteria other than your credit since you will not have had a chance to really prove your creditworthiness at this point. Instead, they will consider your down payment and income.
If you do not have the immediate means to make an acceptable down payment, then there are down payment assistance programs available to you. At the very least, you probably will need about to put down about 3-5% of the loan.
For example, one loan program may require a down payment, credit scores of 580 or more, and no late payments on your rental history for the last 12 months. Another loan program may have similar requirements but will allow a credit score as low as 560 if you have a larger down payment. Each bankruptcy loan program has its own criteria. For your loan application to be approved, it must satisfy that criteria.
There is zero down programs available, but you will have to somehow preserve a fairly decent credit score to obtain a zero down loan after bankruptcy, or you will need to have had your bankruptcy discharged up to a year before applying. Otherwise, it helps to have some cash to work with… this helps overcome lower FICO scores.
After Two Years After a two-year timeframe, your options increase significantly. As long as you have maintained good credit since your bankruptcy, you should not have a problem obtaining a mortgage at a decent interest rate. You specifically might want to look into obtaining a mortgage from the Federal Housing Administration (FHA), the interest rates of which usually are only about .5% points higher than regular mortgage rates.
With this in mind, the best way to determine if you can obtain a mortgage after bankruptcy is to go through the preapproval process. It’s simple and fast, has no cost and no obligation. Afterwards, you’ll know exactly what you’ve got in terms of rates, payments and terms.