Millions of Americans could become ineligible for a mortgage if this Federal Housing Finance Agency change is implemented, credit agency says. Here's what you need to know

Serah Louis
Millions of Americans could become ineligible for a mortgage if this Federal Housing Finance Agency change is implemented, credit agency says. Here's what you need to know
Millions of Americans could become ineligible for a mortgage if this Federal Housing Finance Agency change is implemented, credit agency says. Here's what you need to know

A proposed change by the Federal Housing Finance Agency (FHFA) regarding the mortgage application process could have unintended consequences for potential homebuyers while doing little to move the needle on the organization’s goal of reducing mortgage borrower costs, according to an analysis by credit reporting agency TransUnion.

The FHFA announced in October 2022 plans to use two (bi-merge) instead of three (tri-merge) credit reports to determine a buyer’s effective credit score when applying for a mortgage from government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac. It expected the new system to be implemented some time after the first quarter of 2024.

But this change could result in 2 million consumers becoming ineligible for a GSE mortgage, TransUnion says, due to gaps in reporting as using two reports instead of three could result in an incomplete picture of an applicant’s creditworthiness. Plus there’s the possibility of the most favorable set of data being excluded from the calculation.

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In addition, TransUnion says if 5% of all Americans were to borrow a new mortgage based on a bi-merge score over the next 12 months, 600,000 new borrowers could face higher interest rates and pay an additional $6,600 over the lifetime of their loan (assuming a 10-year term).

“The mortgage industry is not super transparent,” Joe Mellman, senior vice president and mortgage business leader at TransUnion, told Moneywise.

He says that the current tri-merge system was put in place to get a more accurate and full picture of the consumer’s credit since there are significant differences between the three major credit bureaus — TransUnion, Equifax and Experian.

Here’s how borrowers could be affected by one less credit report.

Who’s going to be impacted the most?

The FHFA says the proposed change to a bi-merge system will promote market competition while maintaining an accurate assessment of consumer credit, but TransUnion isn’t so sure.

TransUnion reports that millions of consumers could potentially lose out on qualifying for a GSE mortgage — private home loans that follow certain government regulations and typically come with lower interest rates and easier qualification requirements than conventional mortgages.

These loans make up about half of first-time homebuyer mortgages, according to a 2022 report from the Housing Finance Policy Center.

But if the two-of-three credit reports pulled by a lender don’t include the one with the data most favorable to the borrower, some applicants might no longer qualify for a GSE home loan, Mellman says.

And other borrowers who secure a mortgage might face higher interest, since lenders often raise interest fees on loans to buyers with lower credit scores.

The consumers most likely to be impacted by the new system are those with credit scores of around 620 — the minimum to qualify for a GSE loan. Aside from first-time homebuyers, these individuals are often young, low-to-moderate income folks and Black and Hispanic groups, Mellman says.

While these consumers could potentially save $10 to $20 in credit report and score fees, TransUnion says long-term costs could far outweigh the one-time savings.

Mellman admits that TransUnion does have a stake in maintaining the tri-merge approach, since a bi-merge system might mean less data being requested, which would impact business.

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What about borrowers who do score mortgages?

The TransUnion analysis also found that, even if your lender pulls the two credit reports that provide the most favorable evaluation of your credit, that may be problematic as well. If 10% of Americans apply for a mortgage over the next 12 months, an estimated 200,000 borrowers who originally might not have qualified under the tri-merge system could borrow a GSE home loan, the agency says.

“Those consumers may find themselves in products that they can't afford if we go through an economic downturn, or if they experience some economic stress,” Mellman pointed out. “And with a mortgage, that's particularly damaging.”

He offers up the Great Recession as an example, in which a number of consumers had borrowed far more for their mortgages than they could actually afford.

“With a mortgage, a lot of your money in your life savings goes toward the down payment,” he said. “So when you lose your mortgage and lose your home, you're not only losing where you live, but oftentimes the consumer might lose their life savings.”

If inflation and higher interest rates persist, Mellman says consumers could scramble to meet their monthly mortgage payments as well, especially if they’re juggling other things such as credit card debt and personal loans.

Mellman adds there’s also concern around “gaming” — in which lenders may simply pick the bureaus that provide the highest credit scores in order to close business, even if that’s not what’s best for the consumer.

He worries this could trigger a systematic shift where consumer credit scores rise even though their level of risk remains the same.

If borrowers end up paying less interest than what their actual risk merits, TransUnion says GSEs could lose out on $4 billion in risk-based interest fees each year — and will likely pass these fees onto taxpayers or have them subsidized through higher pricing for lower-risk borrowers.

There are implications for fair lending as well. Mellman explains there could be two consumers that have identical credit, but only one of them qualifies for a mortgage due to “luck of the draw” in which reports get pulled.

What changes are recommended?

The FHFA initially proposed moving forward with this new system in the fourth quarter of 2024, but is now postponing implementation to allow for public engagement and feedback from market participants and impacted stakeholders.

Mellman wants the FHFA to analyze TransUnion’s findings and release them to the public so that it can account for any negative impact to consumers.

Secondly, he suggests the FHFA look into other programs that encourage fair, safe and expanded lending to consumers. For example, he advises the housing industry adopt rental reporting on a larger scale while making assessments, since most first-time homebuyers start off as renters.

“[Rent] is probably more often than not [people's] largest single monthly expense,” he said. “If consumers are making those payments on time, they should get credit for those payments. And that absolutely reduces the overall risk of that consumer.”

If the bi-merge system does move forward, Mellman says consumers can prepare by educating themselves on mortgage underwriting and shopping around to find out which lenders will be using the most favorable data for borrowers.

“Right now, we know that consumers really do not shop as much as they should for mortgages, and in fact consumers overpay for their mortgages because of that,” he said.

“With the shift to a bi-merge, that's going to be exacerbated.”

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This article provides information only and should not be construed as advice. It is provided without warranty of any kind.

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