One of the nation’s largest banks recently announced that it would lower its previous credit score limit of 640 to 600 for Federal Housing Administration (“FHA”) insured home mortgage loans.
The FHA insures loans that meet certain standards requiring a down payment from the borrower of at least 3.5% for loans with credit scores of 580 and 10% down payment if your score is below 580. Historically, loans made with credit scores of 600 were considered“subprime” loans, meaning they were below average and not generally considered to be good risks.
While there may be reasons for considering such loans despite the credit score, prudent lending would dictate that a low score coupled with a small down payment such as 3.5% is a recipe for disaster. The borrower has little at risk, the lender has little at risk and as we have seen in the last recession we cannot assume that home prices will always increase. If lenders significantly relax their credit parameters just to increase loan volume without appropriate analysis of repayment ability and consideration of the potential market disturbances we have witnessed, we may yet again see a housing bubble burst.