B3-2-03, Risk Factors Evaluated by DU (12/13/2023)

DU considers the following characteristics in the credit report to assess the creditworthiness of borrowers who have traditional credit histories: credit history, delinquent accounts, installment accounts, revolving credit utilization, public records, foreclosures, collection accounts, and inquiries.

The non-credit risk factors evaluated by DU include: the borrower’s equity and LTV ratio, liquid reserves, loan purpose, loan term, loan amortization type, occupancy type, debt-to-income ratio, housing expense ratio, property type, and variable income.

DU performs a comprehensive evaluation of these factors, weighing each factor based on the amount of risk it represents and its importance to the recommendation. DU analyzes the results of this evaluation along with the evaluation of the borrower’s credit profile to arrive at the underwriting recommendation for the loan casefile.

More information on these risk factors is provided below. Also see below for information about the risk factors DU considers when evaluating loans where no borrower has a credit score.

A borrower’s credit history is an account of how well the borrower has handled credit, both now and in the past. An older, established history—even though the accounts may have zero balances—will have a more positive impact on the borrower’s credit profile than newly established accounts.

A borrower who has a relatively new credit history (a few recently opened accounts) is not automatically considered a high credit risk. Successfully managing newly established accounts, including making payments as agreed, signifies lower risk.

Payment history is a significant factor in the evaluation of the borrower’s credit. DU considers the severity of the delinquencies (30, 60, 90, or more days late), the length of time since the delinquencies, and the number and type of accounts that were not paid as agreed.

A payment history that includes bills that are 30 days or more past-due, or a history of paying bills late as evidenced by a number of accounts with late payments, will have a negative impact on the borrower’s credit profile. The amount of time that has elapsed since an account was delinquent is an important factor included in the evaluation of the payment history. For example, a 30-day late payment that is less than three months old indicates a higher risk than a 30-day late payment that occurred several years ago.

DU evaluates how well a borrower manages debt for all types of installment loans such as mortgage, auto, unsecured, and student loans. Research has shown that borrowers with no active installment accounts represent a higher risk than borrowers who have active installment accounts.

For certain first-time homebuyers who have a credit score, the lender may use a 12-month third-party asset verification report to have their rent payment history considered in DU. When DU logic can identify rent payments in the asset verification report, it will use the rent payment history to positively supplement the credit risk assessment.

The following requirements apply when using rent payment history in DU:

• At least one borrower must
  • be a first-time homebuyer purchasing a principal residence,
  • have a credit score (nontraditional credit is not permitted), and
  • have been renting for at least 12 months with a monthly rent payment of at least $300.
• For DU to be able to identify rent payments, the lender must
  • enter the monthly rent paid by the borrower in the online loan application,
  • obtain an asset verification report with 12 months of bank statement data through an authorized DU validation service asset verification report vendor, and
  • confirm the borrower is an account holder and that the account provided in the asset verification report is the one from which the borrower pays rent.
• At the time of loan origination, the originating lender must have access to the full asset verification report containing the data covering the period of time provided to DU for assessment.

When an asset verification report is used for both rent history and asset documentation, including asset validation through the DU validation service, only the most recent 60 days of account activity must be reviewed in accordance with the requirements in  B3-4.2-02, Depository AccountsB3-4.2-02, Depository Accounts and  B3-2-02, DU Validation ServiceB3-2-02, DU Validation Service, and retained in the loan file. For additional details on record retention, see  A2-4.1-01, Establishing Loan FilesA2-4.1-01, Establishing Loan Files.

The establishment, use, and amount of revolving credit a borrower has available are important. Trended credit data is used to evaluate the borrower’s ability to manage revolving accounts. A borrower who uses revolving accounts conservatively, meaning low revolving credit utilization or regular payoff of revolving balance, is considered lower risk. A borrower whose revolving credit utilization is high or who has low available revolving credit is considered higher risk.

A credit history that includes any significant derogatory credit event is considered high risk. Significant derogatory credit events include bankruptcy filings, foreclosures, deeds-in-lieu of foreclosure, preforeclosure sales, mortgage charge-offs, or accounts that have been turned over to a collection agency.

The more recent such events occurred, the more adverse the impact is on the credit profile. Although most public record information is retained in the credit history for seven years (ten years for bankruptcies), as time passes, it does become less significant to DU’s credit evaluation.

Note: Collection accounts reported as medical collections are not used in the DU risk assessment.

DU evaluates inquiries made within the most recent 12 months of the credit report date. Research has shown that a high number of inquiries can indicate a higher degree of risk. However, multiple inquiries made by different mortgage lenders or different auto loan creditors within the same time frame is not viewed by DU as multiple inquiries (these types of inquiries generally reflect borrowers shopping for favorable rates or terms). A borrower who has frequently applied for, or obtained, new or additional credit represents a higher risk.

The amount of equity in the property is a very important component of the risk analysis. Research has shown that a borrower who makes a large down payment or who has considerable equity in their property is less likely to become delinquent on a mortgage loan than a borrower who makes a small down payment or has a small amount of equity in the property. In other words, the more equity a borrower has in the property, the lower the risk associated with the borrower’s mortgage loan.

DU may use a low LTV ratio to offset other risks that it may identify in the loan application.

Liquid reserves are those financial assets that are available to a borrower after a loan closes. Reserves are calculated as the total amount of liquid assets remaining after the loan transaction closes divided by the qualifying payment amount.

DU considers higher amounts of liquid reserves as more favorable than lower amounts or no reserves. Research has shown that mortgages to borrowers with higher amounts of liquid reserves tend to have lower delinquency rates. As with a low LTV ratio, DU may consider high amounts of reserves as an offset for other risks that it may identify in the loan application.

There is a certain level of risk associated with every transaction, whether it is a purchase or a refinance. Purchase transactions represent less risk than refinance transactions. When evaluating refinance transactions, a limited cash-out refinance transaction represents less risk than a cash-out refinance transaction.

Research has shown that mortgages to borrowers who choose to finance their mortgages over shorter terms and build up equity in their properties faster generally tend to perform better than mortgages with longer amortization periods.

Research has shown that there is a difference in loan performance based on the manner in which the mortgage amortizes. Fixed-rate mortgages will be viewed as representing less risk than adjustable-rate mortgages.

Performance statistics on investor loans are notably worse than those of owner-occupied or second home loans. Owner-occupied transactions represent the least risk, followed by second home transactions, and investment property transactions having the highest risk level.

In DU’s evaluation, generally, the lower the borrower’s debt-to-income ratio (DTI ratio), the lower the associated risk. As the ratio increases, the level of risk also tends to increase; and a high ratio will have the greatest adverse impact on the recommendation when there are also other high-risk factors present.

The composition of the borrower’s debt is also taken into consideration. Borrowers whose revolving debt makes up a smaller percentage of their monthly expense have been shown to represent less risk than those whose revolving debt makes up a large percentage of their monthly expenses. Also, borrowers with student loan debt have been shown to represent less risk than those with only revolving debt.

Borrowers with lower housing expense ratios are considered lower risk, while those with higher housing expense ratios are considered higher risk. Research has shown that borrowers whose total monthly expenses are composed primarily of their housing expense may find it more difficult to pay this expense when experiencing an event that would cause financial distress, such as the loss of a job.

Another important factor that DU considers in the risk analysis is the collateral or property type. DU differentiates the risk based on the number of units, and in some cases the property type (e.g., manufactured home).

The level of risk associated with each property type is as follows, starting with those property types representing the least amount of risk:

• one-unit properties;

• condo and co-op properties;

• two-, three-, and four-unit properties;

• manufactured homes.

DU evaluates the composition of borrower income. As variable income (bonus, overtime, commission, and other income) can differ from year-to-year, borrowers whose total annual income is made up of a higher percentage of variable income represents an increase in risk. Note that other income is based on entry in Form 1003 of “Other” gross monthly income type in current employment, and “Other” in income from other sources.

DU will consider the following factors when evaluating the overall credit risk of a loan casefile when no borrower has a credit score:

• borrower’s equity and LTV ratio,

• liquid reserves,

• debt-to-income ratio, and

• property type.

See B3-5.4-01, Eligibility Requirements for Loans with Nontraditional CreditB3-5.4-01, Eligibility Requirements for Loans with Nontraditional Credit, and  B3-5.4-02, Number and Types of Nontraditional Credit ReferencesB3-5.4-02, Number and Types of Nontraditional Credit References, for additional requirements that apply to loan casefiles without credit scores.

Note: If a loan casefile does not receive an Approve recommendation or if the borrower is unable to meet the DU requirements related to the nontraditional credit references required, the lender may manually underwrite and document the loan according to the nontraditional credit guidelines described in this Guide.

For certain loan casefiles where no borrower has a credit score, DU can conduct a cash flow assessment when the lender provides a 12-month third-party asset verification report for the borrower. DU will assess the borrower's cash flow management history to determine whether it can be used to positively supplement the credit risk assessment.

To be eligible for the cash flow assessment in DU

• The lender must obtain an asset verification report with 12 months of bank data through an authorized DU validation service asset verification report vendor and confirm the borrower is an account holder.
• At the time of loan origination, the originating lender must have access to the full asset verification report containing the data covering the timeframe provided to DU for the cash flow assessment.

When DU conducts a cash flow assessment and provides an Approve/Eligible recommendation, the 12-month asset verification report may be used to satisfy the nontraditional credit history requirements for all borrowers as outlined in B3-5.4-03, Documentation and Assessment of a Nontraditional Credit HistoryB3-5.4-03, Documentation and Assessment of a Nontraditional Credit History.

When an asset verification report is used for both the cash flow assessment and asset documentation, including asset validation through the DU validation service, only the most recent 30 or 60 days of account activity must be reviewed in accordance with the requirements in  B3-4.2-02, Depository AccountsB3-4.2-02, Depository Accounts, and B3-2-02, DU Validation ServiceB3-2-02, DU Validation Service, and retained in the loan file. For additional details on record retention, see A2-4.1-01, Establishing Loan FilesA2-4.1-01, Establishing Loan Files. 

Note: If a 12-month asset verification report is not obtained, at least two nontraditional credit references are required for each borrower. See  B3-5.4-01, Eligibility Requirements for Loans with Nontraditional CreditB3-5.4-01, Eligibility Requirements for Loans with Nontraditional Credit.