If you apply for a mortgage, two factors will be critical to lenders’ decisions about whether you will get the loan and what sort of interest rate and other terms you’ll get: Your income and your credit score. But credit scores may put some groups, including Latinos, at a disadvantage.
Income indicates how much you can afford to pay, while -- in theory, at least -- credit scores show your reliability and willingness to pay your bills. But the system’s dirty little secret is that your credit score may not truly reflect your bill-paying, and Latinos and other minorities may fare worse than others.
Credit scores were developed in the late 1980s in order to automate and speed up loan underwriting. The first nationally available scoring system was developed by the Fair Isaacs Co. and known as the FICO score. Three major credit reporting agencies – Experian, Equifax and TransUnion – subsequently developed their own scoring models.
The exact models used are proprietary, but credit agencies do report the weight they give to different credit history factors. FICO scores, for example, are based on the following: payment history, including bankruptcy or foreclosure status (35 percent), level of outstanding debt and debt utilization (30 percent), length of credit history (15 percent), new credit and credit inquiries (10 percent) and types of credit used (10 percent).
While some details vary from company to company, the essential components are similar – and what’s missing is important. While credit history – mortgages, car loans, credit cards, etc. – is included in these models, other types of bill-paying are not. Much of this information, such as payments for rent and utilities, is not reported to credit agencies.
This puts those who have little experience with credit but a long, stable history of on-time payments of rent and utilities. at a huge disadvantage. Because credit scoring models consider mortgage payments but not rent payments, there is a built-in advantage for whites: 74.7 percent of whites now own their own homes, compared to 47 percent of Latinos and 45 percent of African Americans. Clearly this contributes to the fact that blacks and Latinos on average have lower credit scores than non-Hispanic whites.
Another thing credit scores don’t do is account for changes in individual or neighborhood circumstances that temporarily cause an otherwise responsible borrower to miss payments. And several indicators suggest that the current recession has had a disproportionate impact on Latinos.
The unemployment rate for whites is currently 8.8 percent, according to the Bureau of Labor Statistics, while the Hispanic unemployment rate is 12.6 percent. And an impact index released last year by the Center for Social Inclusion found that states with higher percentages of people of color were hit harder by the recession overall – with Florida, with its large Latino population, hit hardest of all.
Any effort to fix our troubled home mortgage system must consider the limitations of current credit scores and consider ways to make the system more accurate and fair.
Orson Aguilar is Executive Director and Preeti Vissa is Community Reinvestment Director at The Greenlining Institute, www.greenlining.org