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Today, lenders consider more than just the credit
score, and there are no bright lines that separate one level
of subprime customer from another. "There's not as much
of a need for it," says Lumsden of Full Spectrum Lending.
"You see (two) borrowers and they may have a similar
scores and one borrower might get a different rate than the
other one."
How risk-based pricing works
Neighbors with similar credit scores might be quoted different
deals because the rates and fees are determined by up to two
dozen factors. The credit score is the most important one.
Other factors in risk-based pricing include:
- types of late payments (having been delinquent
on a house payment is worse than falling behind on an auto
loan),
- how much installment debt you have,
- how long you've had your job,
- how much cash you will have after making
the down payment and paying closing costs,
- your mortgage's loan-to-value ratio,
- whether you will live in the house or rent
it out,
- what type of dwelling you're buying (a mortgage
on a single-family home is less risky than a mortgage on
a unit in a high-rise condominium).
It wasn't possible to crunch so much data until
around 1993, says Doug Duncan, chief economist for the Mortgage
Bankers Association. Starting around then, banks began to
analyze vast consumer databases to assess risk. Savvy companies
sought to identify customers who looked riskier, at first
glance, than they really were.
"It's really about collecting data, seeing the experience
of borrowers and interpreting that into pricing models,"
Lumsden says. He adds that lenders' risk assessment grows
ever more discerning: Four years ago, two people with similar
credit histories might have been considered C borrowers, whereas
today one might be an A-minus and the other a C.
Now the line between prime and subprime mortgages
is blurring. Lenders such as Indymac Bank have what Sillman
calls a one-door policy: All applications are entered into
the same computer system. "You put your loan in and it
approves you for the best loan that you qualify for,"
Sillman says.
One consequence is that the gap has narrowed
between rates on prime loans and subprime loans. At the same
time, major lenders have become more adept at avoiding the
riskiest loans.
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