Sunday, November 21, 2010

Foreclosure’s Wake: The Credit Experiences of Individuals Following Foreclosure

By Kenneth P. Brevoort (FRB) and Cheryl R. Cooper (The Urban Institute)

Abstract: While a substantial literature has examined the causes of mortgage foreclosure, there has been relatively little work on the consequences of foreclosure for the borrowers themselves. Using a large sample of anonymous credit bureau records, observed quarterly from 1999Q1 through 2010Q1, we examine the credit experiences of almost 350,000 borrowers before and after their mortgage foreclosure. Our analysis documents the substantial declines in credit scores than accompany foreclosure and examines the length of time it takes individuals to return their credit scores to pre-delinquency levels. The results suggest that, particularly for prime borrowers, credit score recovery comes slowly, if at all. This appears to be driven by persistently higher levels of delinquency on consumer credit (such as auto and credit card loans) in the years that follow foreclosure. Our results also indicate that the experiences of individuals whose mortgages entered foreclosure from 2007 to 2009 have followed a similar path to borrowers foreclosed earlier in the decade, though post-foreclosure delinquency rates for the recently foreclosed have been higher and, consequently, credit score recovery appears to be taking longer.

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Thursday, November 18, 2010

Your Credit Score Is a Ranking, Not a Score (Cleveland Fed)

Credit scores are used in nearly every part of our lives, from applications for car loans, mortgages, credit cards, and car insurance to even some hiring decisions. It is well established that people with higher scores get better loans, have better jobs, and pay lower insurance premiums than people with lower scores. Because credit scores matter so much, many consumers regularly monitor their scores, and some try to improve them. But when people start paying closer attention, they are often puzzled by how and why their scores change over time.

Credit scores can be hard to figure out. They can change even when one’s behavior has not. Or the same exact credit score can qualify a borrower for a loan one year but not be high enough the next. Part of the apparent unpredictability comes from the common misunderstanding that a credit score is a rating of one’s creditworthiness. Actually, it is a ranking of one’s creditworthiness compared to the rest of the population in the United States at any point in time. In other words, your score depends not only on your credit behavior but also on the behavior of others. If your score changes over time, it means your rank-order among other consumers has changed.

Knowing more about who produces credit scores and how they are calculated can help consumers understand, interpret, and manage their scores. So read on: