Taking aim at the racial wealth gap, mortgage market-making giant Fannie Mae has begun offering more flexible loan approvals for would-be homeowners who don’t have credit scores.

A government-sponsored enterprise, Fannie Mae doesn’t deal directly with American consumers, but it’s a major buyer of mortgages originated by U.S. lenders, and it also offers a variety of loan products through financial institutions. In late 2022, Fannie Mae announced it adjusted its automated Desktop Underwriter system — widely used by loan officials — to look at bank records for borrower applicants who lack credit scores.

The change in underwriting was inspired by a wide disparity in U.S. homeownership rates by race. While nearly three-quarters of white Americans owned homes as of the third quarter of 2022, fewer than half of Black and Hispanic Americans were homeowners, according to the U.S. Census Bureau.

“This is another tool in the toolkit to attack that problem,” says Fannie Mae Executive Vice-President and Head of Single-Family Business Malloy Evans.

Fannie Mae isn’t the only large player in the mortgage market looking to narrow the racial gulf in housing. Bank of America last year rolled out a no-money-down mortgage program for homebuyers in minority neighborhoods.

Who are the ‘credit invisibles’?

For most American consumers, credit scores are the most important factor in qualifying for a mortgage and determining the cost of that mortgage. While mortgage lenders also consider such factors as loan-to-value ratios and debt-to-income metrics, the three-digit credit scores play an outsized role in determining a borrower’s interest rate.

But what about the tens of millions of Americans who have no credit score, because they don’t use credit cards or have auto loans? They may have a history of handling debt responsibly, but credit scores typically don’t reflect such activity as rent payments and utility payments. As a result, these consumers often find themselves locked out of the mainstream housing market.

Fannie Mae cites a 2015 study by the Consumer Financial Protection Bureau, which found some 26 million U.S. adults are “credit invisible” — they have no credit history with any of the nationwide credit reporting companies. An additional 19 million consumers have unscorable credit files, which means that their credit histories are too sparse or stale to get the three-digit grade that affluent Americans take for granted. In all, 45 million consumers lacked credit records that could be scored, the regulatory agency reported.

Black and Hispanic Americans are overrepresented in those numbers, the Consumer Financial Protection Bureau found. While 15 percent of Black and Latino consumers are credit invisible, just 9 percent of white and Asian Americans fall into that category.

The official poverty rate in the United States is 12.8 percent, according to the Census Bureau, meaning that some 42 million Americans likely are too poor to consider homeownership.

Lack of credit score doesn’t necessarily equate to lack of financial clout, however. Fannie Mae is targeting the millions of Americans who have the financial means to buy homes but who have avoided mainstream credit products, perhaps for fear of overspending. “A lot of these borrowers have intentionally chosen not to take out credit,” says Evans.

How the new rules work

Fannie Mae’s new guidelines offer a workaround. The company has updated its automated applicant-evaluation system, Desktop Underwriter. Mortgage brokers and loan officers who originate loans (that will eventually be sold to Fannie Mae) use Desktop Underwriter to input potential borrowers’ data. If an applicant simply doesn’t have a credit score, Desktop Underwriter now takes into account data from a loan applicant’s financial and investment accounts. Fannie Mae claims it can examine 12 months of bank statements to evaluate a borrower’s creditworthiness.

The goal is to identify Americans who are ready for homeownership even if they haven’t been using credit cards or otherwise building credit scores.

The latest tweak to Fannie Mae’s mortgage underwriting method is not about loosening credit standards, Evans says. Instead, the idea is to identify borrowers who are invisible to the mainstream lending system, but who pose little risk of default.

“Consumers should benefit from their responsible money management habits and a steady stream of income when buying a home, even if they don’t have an established credit history,” he adds.