There's an interesting phenomenon
happening in the real estate buying cycle. Now that most of the country
is five to seven years out from its real estate peak, and most major cities are
actually into the upswing of home prices, distressed homeowners of yesteryear
are becoming the home buyers of today.
Rules for qualifying for a mortgage
vary widely between lenders and loan programs, but one of the most-often used
loans today is the FHA mortgage.
Today's FHA mortgage requirements
for foreclosures and bankruptcies (see your lender for exact details):
- A foreclosure that was discharged three years ago
- A bankruptcy discharged two years ago
The initial reaction by many to this
situation is: Again? We've certainly all seen enough shoddy lending and
lax credit practices during the last boom-bust cycle and, on the face of it,
this seems like an invitation to more.
However, the details of how these
home buyers must qualify is dramatically different from the way sub-prime home
buyers were qualifying for loans in the past. The new practices, while
still generous to the buyer, create far greater protections for the lender and
the American public who, in the long run, foot the bill for defaults.
Home buyers with foreclosures and
bankruptcies on their records need to show a consistent history of pristine
credit since the time of their foreclosure or bankruptcy.
Additional FHA requirements (there
are more, refer to a lender):
- On-time bill payment on all credit accounts since the foreclosure/bankruptcy
- A 640 credit score (responsible credit use is absolutely essential to gain this score 3 years out of foreclosure)
- A verified down payment (3.5% or higher, depending on the borrower)
- Upfront and ongoing mortgage insurance (which protects the lender from debts in case the buyer defaults)
- Significantly lower debt-to-income ratios (ensures the buyer has ample discretionary income to make payments long-term)
Underwriters scrutinize these
borrowers' loan applications far more than an average home buyer. In
contrast, during the real estate boom, a buyer could be approved for a mortgage
with very little credit history to support it.
Sub-prime mortgage approvals at the
height of the real estate boom:
- 580 credit score
- 100% Financing or 80/20 1st/2nd mortgages (no money down)
- Foreclosure 2 years out
- Bankruptcy 2 years out
- No income verification
- Total debt ratios up to 60%
While the changes in lending to
borrowers who have past foreclosures and bankruptcies may not satisfy all
critics, there are also mitigating factors that underwriters take into
consideration. Remember that even though a home buyer's past foreclosure
may have been closed as of three years ago, the banks sometimes take up to a
couple of years to push a foreclosure through. That person may have
essentially handed the home back to the bank five years ago and been repairing
their credit ever since. Underwriters can take this into account.
Moreover, there are many different
situations that lead to foreclosure. Certainly some buyers overspent, got
in over their heads, and walked away from a bad investment. Those are
going to be viewed less favorably by a lender. Others have lost their
homes due to job loss, divorce, deaths in the family, and a host of other
reasons.
When an underwriter can see that
home buyers have been responsible with credit in every instance of their lives
except for the foreclosure or bankruptcy event due to unforeseen loss of income
or spouse etc., there is great reason to believe that these people, under the
newer, more restrictive lending guidelines, are a good credit risk. The
lender and the public are protected by these buyers paying for mortgage
insurance, and their re-introduction to the housing market in a new economy
will allow them to re-establish a long-term credit track record and keep the
housing market moving.
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