When we read mortgage papers, we look at the words. When lenders and others of their ilk do so, they look at the numbers. That's because while the words explain how the loan works, the numbers explain why it is structured the way it is -- at least to those who understand them.

To those who can interpret them, the numbers reflect the amount you borrow, your down payment, the type and life of the loan and the interest rate you will pay on the loan. It also includes how much you owe to creditors, what other property you own, how much you make and your FICO score.

Mike Fratantoni, a senior economist at the Mortgage Bankers Association in Washington, D.C., explains that your FICO score is one of the most important numbers in your mortgage formula -- the one that determines how close the interest rate you pay will actually be to the one the lender advertised.

"The FICO is a summary of credit history, and it is a pretty powerful predictor of a borrower's defaulting on a loan and lender," he said. "In order to maintain a sound business, lenders have to charge more to those with lower scores. That's because in the event of a default, there is enough misery to go around for everyone involved. The buyer loses the house. The lender loses money -- the principal and interest payments. It is really quite expensive and miserable for everyone."

So when a lender advertises a 30-year conventional mortgage at 6 percent, there are conditions attached, and the condition of your FICO score is one of them. That 6 percent is for people with what Fratantoni calls "an A-paper credit rating, a really great FICO."

Sometimes a lender will actually state that the rates that appear apply only to those with a FICO score of X or better. But the borrower also needs a good down payment, a low debt-to-income ratio, enough income to make the payments, and so on.

A-paper borrowers are also referred to as "the prime market," Fratantoni said.

As credit scores go down, interest rates go up, "and it's a fairly abrupt increase." While the 20-point difference between a 740 and 760 FICO score might be virtually nonexistent, the 20-point spread between 590 and 610 can be expensive, depending upon the lender and the other factors that go into the equation.

A lender will put together a pool of mortgages to sell. The pools normally feature mortgages with similar FICO scores.

"The people who buy them get the monthly mortgage payments, the principal and interest payments," he said. "Like all investors, they want the best return they can get for taking the risks they are taking." Most mortgages are sold to Fannie Mae, Freddie Mac or to private investors.

If a borrower defaults, the investors stop getting any money, either interest or principal. They probably will recover at least some of the principal through the sale of the house, from private mortgage insurance or from government-backed loans such as the ones from the Federal Housing Administration and Department of Veterans Affairs. This can take a while, and investors are losing income during that time.

When lenders look at the long-term historical figures, they see that maybe 0.5 percent of prime borrowers -- one out of 200, for example -- might wind up defaulting on a loan and going into foreclosure.

"The long-term historical average for borrowers in the subprime market might be five to 10 times that," Fratantoni said. That makes a subprime borrower five to 10 times more likely to default, and the lenders and the people who buy the loans have to work that risk into their formula. The No. 1 indicator is the FICO.

If the A-paper rate is 6 percent, and the average FICO score in the pool is 650 and above, the interest rate will be closer to 6 percent than those in a pool filled with loans in the low 600s.

"When you start getting down to the lower 600s or 500s, that's where it's 7 percent or higher, maybe even 8 percent," Fratantoni said.

"In the subprime market, there is substantially more risk-based pricing," he said. "The implementation of risk-based prices has been responsible for the success and growth of the subprime market. We have lenders who can offer loans to people who might not get a loan otherwise. When lenders are allowed to charge more for a riskier borrower, lenders are more willing to extend credit."

Fratantoni added that there has been a great deal more growth in the subprime market than in the prime market simply because prime borrowers have always been able to get loans.

Today, however, even risky borrowers can get mortgages, but they do have to pay more than prime borrowers do, and the spread between the two of them is based on their FICO score and spelled out in the numbers.

Interest.com is a national publisher of mortgage rates and information. Consumers can view additional mortgage information on the Internet at www.interest.com.

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