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2007-10-15 15:14:00

Home Buyers Confront the Credit Gremlin

"I don't think I'll ever be able to buy a house. My credit is terrible."

If I had a nickel for every house I sold to buyers who said that to me at an initial meeting or over the phone in the last 22 years, I'd probably have enough money for a spa weekend.

There are numerous buyers who suffer financial hardship stemming from life events that are beyond their control. Unemployment, illness, death, and divorce can introduce financial misfortunes that seem overwhelming. Feelings of desperation and hopelessness compound the problem when the buyer adopts an attitude of resignation to his plight.

Credit reports are mathematical tools that quickly measure the negative impact of these challenges as a predictor of a person's willingness and ability to pay future debt. Credit reporting agencies are slow to correct mistakes and to measure improvement in quantifiable terms. They do not measure more human prognosticators of creditworthiness.

FHA mortgage underwriters are trained to weigh human circumstances. Even buyers with histories of bankruptcy and foreclosure have opportunities to avoid the subprime lending corridors where lending predators prowl. Many of those predators have gone out of business, and FHA financing reform is right around the corner ... but even before reform, FHA mortgages remains a good source of funds for credit-challenged borrowers.

Chapter 7 Bankruptcy: When a Chapter 7 bankruptcy was caused by circumstances beyond the borrower's control (such as the death of the principal wage earner or serious long-term uninsured illness, etc.), the borrower may be eligible for FHA financing after a minimum of 12 months.

Chapter 13 Bankruptcy: A borrower paying off debts under Chapter 13 of the Bankruptcy Act may also qualify if one year of the payout period has elapsed and performance has been satisfactory. The borrower must receive court approval to enter into the mortgage transaction.

Foreclosure: An applicant who has gone through foreclosure proceedings or given deed in lieu of foreclosure on a previously owned property may be considered for loan approval if the foreclosure occurred three years preceding the application date and was a result of extenuating circumstances that were beyond his control (i.e. a serious long term illness, death of the principal wage earner, or loss of employment due to factory shutdown, etc.), and if he has since re-established good credit and demonstrated the ability to manage financial obligations.

Compensating Factors Can Make a Difference

FHA underwriters may use compensating factors to counterbalance deficiencies in credit, high debt-to-income ratios, and other antecedents in the loan process. Some of those factors include:

  • The borrower has successfully demonstrated the ability to pay housing expenses equal to or greater than the proposed monthly housing expense for the new mortgage.
  • If the borrower over the past 12-24 months has met housing obligations as well as other debts, there should be little reason to doubt the borrower's ability to continue to do so despite having ratios in excess of those prescribed.
  • The borrower makes a large down payment toward the purchase of the property.
  • The borrower has demonstrated a conservative attitude toward the use of credit and has shown an ability to accumulate savings.
  • Previous credit history shows that the borrower has the ability to devote a greater portion of income to housing expenses.
  • The borrower receives compensation or income not reflected in effective income, but directly affecting the ability to pay the mortgage, including food stamps and similar public benefits.
  • There is only a minimal increase in the borrower's housing expense.
  • The borrower has substantial cash reserves after closing.
  • The borrower has substantial nontaxable income (if no adjustment made previously in the ratio computations).
  • The borrower has potential for increased earnings, as indicated by job training or education in the borrower's profession.
  • The home is being purchased as the result of relocation of the primary wage-earner, and the secondary wage-earner has an established history of employment, is expected to return to work, and there is reasonable prospect for securing employment in a similar occupation in the new area. The underwriter must address the availability of such possible employment.

(Frances Flynn Thorsen is Managing Editor of RealTown.com. She is the author of HUD Homes for Sale: A Complete Buyer's Guide and HUD Homes for Sale: A Sales and Marketing Guide for Real Estate Agents. She was the winning Blog Coach of Project Blogger sponsored by Inman News and ActiveRain and was selected as a leading woman real estate blogger by SellsiusBlog. She publishes several blogs, including RealTown Report, The REALTYgram Blogger, and Web Women Giving Circle Blog. She is the Co-Creator of No Blogger Left Behind.)

"I don't think I'll ever be able to buy a house. My credit is terrible."

If I had a nickel for every house I sold to buyers who said that to me at an initial meeting or over the phone in the last 22 years, I'd probably have enough money for a spa weekend.

There are numerous buyers who suffer financial hardship stemming from life events that are beyond their control. Unemployment, illness, death, and divorce can introduce financial misfortunes that seem overwhelming. Feelings of desperation and hopelessness compound the problem when the buyer adopts an attitude of resignation to his plight.

Credit reports are mathematical tools that quickly measure the negative impact of these challenges as a predictor of a person's willingness and ability to pay future debt. Credit reporting agencies are slow to correct mistakes and to measure improvement in quantifiable terms. They do not measure more human prognosticators of creditworthiness.

FHA mortgage underwriters are trained to weigh human circumstances. Even buyers with histories of bankruptcy and foreclosure have opportunities to avoid the subprime lending corridors where lending predators prowl. Many of those predators have gone out of business, and FHA financing reform is right around the corner ... but even before reform, FHA mortgages remains a good source of funds for credit-challenged borrowers.

Chapter 7 Bankruptcy: When a Chapter 7 bankruptcy was caused by circumstances beyond the borrower's control (such as the death of the principal wage earner or serious long-term uninsured illness, etc.), the borrower may be eligible for FHA financing after a minimum of 12 months.

Chapter 13 Bankruptcy: A borrower paying off debts under Chapter 13 of the Bankruptcy Act may also qualify if one year of the payout period has elapsed and performance has been satisfactory. The borrower must receive court approval to enter into the mortgage transaction.

Foreclosure: An applicant who has gone through foreclosure proceedings or given deed in lieu of foreclosure on a previously owned property may be considered for loan approval if the foreclosure occurred three years preceding the application date and was a result of extenuating circumstances that were beyond his control (i.e. a serious long term illness, death of the principal wage earner, or loss of employment due to factory shutdown, etc.), and if he has since re-established good credit and demonstrated the ability to manage financial obligations.

Compensating Factors Can Make a Difference

FHA underwriters may use compensating factors to counterbalance deficiencies in credit, high debt-to-income ratios, and other antecedents in the loan process. Some of those factors include:

  • The borrower has successfully demonstrated the ability to pay housing expenses equal to or greater than the proposed monthly housing expense for the new mortgage.
  • If the borrower over the past 12-24 months has met housing obligations as well as other debts, there should be little reason to doubt the borrower's ability to continue to do so despite having ratios in excess of those prescribed.
  • The borrower makes a large down payment toward the purchase of the property.
  • The borrower has demonstrated a conservative attitude toward the use of credit and has shown an ability to accumulate savings.
  • Previous credit history shows that the borrower has the ability to devote a greater portion of income to housing expenses.
  • The borrower receives compensation or income not reflected in effective income, but directly affecting the ability to pay the mortgage, including food stamps and similar public benefits.
  • There is only a minimal increase in the borrower's housing expense.
  • The borrower has substantial cash reserves after closing.
  • The borrower has substantial nontaxable income (if no adjustment made previously in the ratio computations).
  • The borrower has potential for increased earnings, as indicated by job training or education in the borrower's profession.
  • The home is being purchased as the result of relocation of the primary wage-earner, and the secondary wage-earner has an established history of employment, is expected to return to work, and there is reasonable prospect for securing employment in a similar occupation in the new area. The underwriter must address the availability of such possible employment.

(Frances Flynn Thorsen is Managing Editor of RealTown.com. She is the author of HUD Homes for Sale: A Complete Buyer's Guide and HUD Homes for Sale: A Sales and Marketing Guide for Real Estate Agents. She was the winning Blog Coach of Project Blogger sponsored by Inman News and ActiveRain and was selected as a leading woman real estate blogger by SellsiusBlog. She publishes several blogs, including RealTown Report, The REALTYgram Blogger, and Web Women Giving Circle Blog. She is the Co-Creator of No Blogger Left Behind.)

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