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Credit reports: does accuracy count?

"Ladies and gentlemen: In the near corner, wearing white trunks and weighing in at 225 pounds of pure muscle and steroids we have our challenger: merged in-file reports. In the far corner, wearing black trunks and weighing in at a paltry 125 pounds is our aging defending champion, the residential mortgage credit report."

Put another way, this metaphor could read, "In the near corner, directly accessible through a computer, relatively inexpensive, available within 5 to 10 minutes and containing all the consumer in-file credit information from the three major national credit repository data bases, is the merged in-file credit report. And in the far corner, costing anywhere from $38 to $85 per credit file, taking anywhere from 24 hours to 20 days to complete and typically containing its share of inaccuracies and incompleteness, stands the residential mortgage credit report, more commonly referred to by practitioners as the RMCR."

Does that sound about right? Will the residential mortgage credit report become a relic, or, more importantly, is the three-bureau merged in-file report the wave of the future whose time is now? By first appearance, the merged in-file report certainly makes sense.

Let's take a brief look at the history behind this line in the sand separating the opposing forces. In 1988, FHA, VA, FmHA, Fannie Mae and Freddie Mac came out with new guidelines defining what must be contained within a borrower's credit report to be acceptable to these agencies. By and large, the secondary mortgage market adopted these same standards. The big kicker when these standards were released was that producers of the residential mortgage credit reports must use two of the five available repository data bases. Obviously, certain other rules and guidelines important to quality assurance were covered in this 1988 rewrite; however, for the time being, let's focus on the repository rule.

Since 1988, the Department of Justice has allowed the credit reporting industry to continue its consolidation, which had started 15 years earlier. As a result of this relaxing of the antitrust issues, only three major national credit repositories remain: Equifax, TRW and TransUnion. So the credit-reporting agencies responsible for producing the RMCRs, instead of picking the best two out of five available sources for their credit investigations, now select two out of three. As logic would have it, if two credit sources are better than one, then three should be the best possible combination. Right? Wrong.

In August 1989 I wrote an article for Mortgage Banking entitled, "Credit Reports: Faulty Files?" The major theme of the article was that the credit information contained within the repository in-file credit reports, although good, was not always accurate. To quote from that story, "We have found that the major credit repositories contradict each other 20 percent of the time when two repositories are compared. The error rate jumps to 30 percent of the cases reviewed when the borrower information from three repositories is compared." In the article I claimed that errors were found in the consumer credit profiles in two cases out of five--an error rate of 40 percent.

The reaction that I received from the mortgage industry for this bold claim was one of relative indifference and apathy. On the other hand, I struck a nerve elsewhere and suddenly received a rash of attention from the general media as well as consumer advocate groups. My story appeared in USA Today, Time, Newsweek and several syndicated newspapers. I was forced to defend my statements for obvious reasons, as both my own trade association, Associated Credit Bureaus, and the "three sisters" (Equifax, TRW, TransUnion) prepared for war. Eventually I got beyond the initial onslaught with assurances that, as blood kin, we'd all better take a look at the quality of data issue.

Accordingly, my initial study was expanded to analyze 6,000 mortgage credit applications over a six-month period spanning 1989 to 1990. By using extremely conservative guidelines, I found that credit repository information was incorrectly tagged to the consumer in one file out of four (25 percent). More importantly, when we combined the credit history reported by the repositories with the information provided in the HUD 1003 application supported by interviews with the prospective borrowers and reverified by credit grantors initially providing the data, I concluded that we had to supplement or correct the data on 47 percent of the loan files.

Now, I want to go on record that this article is not intended to take pot shots at the repositories. They are doing an outstanding job considering the enormity of the task. An in-file consumer credit report is the best bargain in town when it comes to prequalifying prospective mortgage borrowers, routine credit card approvals and small installment loans. When it boils down to underwriting approval or denial of a mortgage, I can't conceive that these basic credit bureau in-file reports were ever intended to be the ultimate singular credit tool. It's a serious mistake when regulators and mortgage lenders start believing that by combining the information from all three repositories, a clear, concise and truthful reflection of the consumer's credit history is going to be forthcoming. It simply will not happen.

What are the consumer rights under this approach? Who's talking to them about the contents of the merged in-file?

Should my editorial comments suggest that I'm simply attempting to preserve the RMCR business because we cannot compete against vendors promoting this product to the mortgage banking industry, let me state that you are wrong in your assessment. In fact, my employer has the best three-bureau instant-merged report in the industry. Let me also make it perfectly clear that it's not the "three sisters" that are promoting the premise that a merged report is as good as an investigative RMCR. At the same time, it's unrealistic for anybody to expect them to discredit the accuracy or clarity of their own product. Rather, the thrust is coming from within the mortgage industry as major lenders continue to try to streamline the documentation process through automation and further cost controls. To a significant degree, Fannie Mae and Freddie Mac are further fueling the shift to the three-bureau merged report over an RMCR, rationalizing that the credit risk will not be significantly different from favoring the automated merged report over the RMCR.

It's unrealistic to expect that the major credit agencies, namely CREDCO, Inc., UCB Services, Inc. and Informative Research, Inc. wouldn't use their own technology advantage to promote what the market wants. These same companies have made major investments in computer hardware and software that can provide mortgage bankers and brokers with the instant merged product. At the same time, their senior management recognizes the inherent risk of eliminating the RMCR.

A good illustration of the risk of using merged in-files rather than RMCRs can be seen in the high mortgage delinquency rate experienced by the former Citicorp Mortgage. In an effort to maintain dominance in the industry, Citicorp abandoned the proven lending practices developed by the secondary market. According to the office of the Comptroller of the Currency, Citicorp sacrificed quality to focus on volume. The comptroller's report went on to say that Citicorp adopted a limited verification and minimal documentation process that attracted higher credit-risk borrowers (The Wall Street Journal). In addition to other forms of low documentation, these borrowers were evaluated using only a merged in-file credit report in lieu of a full, verified RMCR. "The mortgage unit's quality lapse has staggered Citicorp with more than $200 million in losses."

If the overall mortgage market opted for this shortcut, the potential risk to the taxpayers could begin to take the appearance of the savings and loan crisis.

Because I'm making a case defending the importance and value of the RMCR, I should come clean and state that not all RMCRs are created equal. In fact, the quality standards of a few of these mortgage credit reporting agencies are downright poor.

For definition purposes, credit-reporting agencies are businesses engaged in the preparation of reports used by lenders to determine the credit and public record history of homebuyers. Their reports contain data obtained from the repositories as well as information and verification from other acceptable sources (employers, credit grantors and the like). Most of their work is performed manually and does not lend itself to automation.

The problem is that this industry by and large is not regulated. Sure, Fannie Mae and Freddie Mac outlined standards in 1988, which can be loosely interpreted in many areas. Who is to say whether or not a given credit-reporting agency is initially qualified to produce the RMCR. Appraisers must be tested and licensed. Shouldn't these mortgage credit agencies also follow suit?

For instance, it is suggested that the prospective borrowers be interviewed if there are unanswered questions regarding their credit history. Anything they say that contradicts the information on hand must be reverified by a reliable third party (e.g., credit grantor or court record). Why would anybody in his right mind want to conduct a thorough interview when he knows that it's going to significantly add to his production time and more than likely will also generate questions from the borrower that could lead to additional calls and/or letters to credit grantors verifying the accuracy of certain line information originally provided by one or more of the "three sisters" (i.e., Equifax, TRW or TransUnion)?

Why are certain credit-reporting agencies short-cutting quality? Plain and simple. It's called competition, my friend, and some businesses will do whatever they have to do to survive.

In a typical scenario, several key clients of the credit-reporting agency are applying pressure for quick turnaround and lower rates. The agency will concede that it had better play ball or its competitors will supplant it. Looking at it from the other side of the table, a typical mortgage banker or broker may have limited loyalty to a supplier who is knocking himself out to produce a "correct" RMCR. Our banker is quick to take advantage of a $5 savings per mortgage application as long as it carries that meaningless certification and is acceptable by the secondary market--namely Fannie Mae and Freddie Mac. Regardless of whether or not Fannie Mae, Freddie Mac or any other investor accepts the risk, a default means recourse to either the originator or the mortgage insurance carrier.

In conclusion, a merged in-file can have its place as a tool to prequalify the applicant. It is not a sufficient instrument to take a loan package to closing. I believe that in order to ensure the quality and integrity of the credit portion of the loan file, everybody wins by continuing to insist on an RMCR--the lender the secondary market, the credit agency and, most importantly, the consumer.

Jim Williams is director of marketing of Factual Data Corp., Ft. Collins, Colorado.
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Title Annotation:importance of credible residential mortgage credit reports to mortgage banks
Author:Williams, Jim
Publication:Mortgage Banking
Date:Apr 1, 1993
Previous Article:The marriage of mortgage lending & technology.
Next Article:The Complete Guide for Mortgage Mathematics.

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