Qualifying for a Home Loan with Collections, Charge Offs or Judgements
A lot of people have had challenges in the past, resulting in a collection, charge-off, or judgement showing up on your credit report.
It’s not as bad as you might think most of the time.
The primary decision maker is the automated underwriting engine from Fannie Mae called Desktop Underwriter (DU), or Desktop Originator (DO). Both systems are identical with the underwriting guidelines that are followed.
The only differences between DU and DO is accessibility to the underwriter, and deliverability to Fannie Mae. The transfer of your loan approval from DO to DU is seamless, and a normal part of the process.
Below, you will find other exclusions form DU which include charge-offs and medical collections that will not be counted against you, and are not required to be paid off.
Timing is Important
Timing is an important factor in determining how old collections will affect your approval. Anything older than 24 months is generally ignored by DU.
Another important credit preservation fact is that you should not try to pay off old collection accounts.
Sometimes, advice is given to pay off old collection accounts, which only results in a temporary drop in your credit score as an aged delinquent account becomes a recent delinquent account as the status changes to “paid collection”.
It is usually best to leave accounts alone that are older than 24 months old.
Fannie Mae Conventional Guidelines
Past-Due, Collection, and Charge-Off of Non-Mortgage Accounts – Accounts that are reported as past due (not reported as collection accounts) must be brought current.
If this were to occur, it could be an inaccuracy on the credit report that can be corrected.
For one-unit, principal residence properties, borrowers are not required to pay off outstanding collections or non-mortgage charge-offs, regardless of the amount.
Note: If the lender marks the collection account Paid By Close in the online loan application, DU will issue a message in the DU Underwriting Findings report stating that the collection must be paid.
For two-to-four unit owner-occupied and second home properties, collections and non-mortgage charge-offs totaling more than $5,000 must be paid in full prior to or at closing.
For investment properties, individual collection and non-mortgage charge-off accounts equal to or greater than $250 and accounts that total more than $1,000 must be paid in full prior to or at closing
Risk Factors Considered by DU
Public Records, Foreclosures, and Collection Accounts
If your credit history includes any significant derogatory credit event, you could be considered high risk.
Significant derogatory credit events include bankruptcy filing, foreclosure, deed-in-lieu of foreclosure, pre-foreclosure sale, mortgage charge-off, judgments, tax liens, or accounts that have been turned over to a collection agency.
The more recent such events occurred, the more adverse the impact is on the credit profile.
Although most public record information is retained in the credit history for seven years (ten years for bankruptcies), as time passes, it does become less significant to DU’s credit evaluation.
FHA Guidelines on Judgments (TOTAL)
Judgment refers to any debt or monetary liability of the Borrower, and the Borrower’s spouse in a community property state unless excluded by state law, created by a court, or other adjudicating body.
Your Lender must verify that court-ordered Judgments are resolved or paid off prior to or at closing. Judgments of a non-borrowing spouse in a community property state must be resolved or paid in full, with the exception of obligations excluded by state law.
Exception: A Judgment is considered resolved if the Borrower has entered into a valid agreement with the creditor to make regular payments on the debt, the Borrower has made timely payments for at least three months of scheduled payments and the Judgment will not supersede the FHA-insured mortgage lien.
FHA Guidelines: Obligations Not Considered Debt
- medical collections
- federal, state, and local taxes, if not delinquent and no payments are required
- automatic deductions from savings, when not associated with another type of obligation
- Federal Insurance Contributions Act (FICA) and other retirement contributions, such as 401(k) accounts
- collateralized loans secured by depository accounts
- child care
- commuting costs
- union dues
- insurance, other than property insurance
- open accounts with zero balances
- voluntary deductions, when not associated with another type of obligation
Collections and Open Derogatory accounts should follow DO or DU findings.
VA Guidelines on Derogatory Credit
In circumstances not involving bankruptcy, satisfactory credit is generally considered to be reestablished after the veteran, or veteran and spouse, have made satisfactory payments for 12 months after the date the last derogatory credit item was satisfied.
For example, assume a credit report reveals several unpaid collections, including some which have been outstanding for many years.
Once the borrower has satisfied the obligations, and then makes timely payments on subsequent obligations for at least 12 months, satisfactory credit is reestablished.
Collections: Isolated collection accounts do not necessarily have to be paid off as a condition for loan approval. For example, a credit report may show numerous satisfactory accounts and one or two unpaid medical (or other) collections.
In such instances, while it would be preferable to have collections paid, it would not necessarily be a requirement for loan approval.
However, collection accounts must be considered part of the borrower’s overall credit history and unpaid collection accounts should be considered open, recent credit.
Borrowers with a history of collection accounts should have reestablished satisfactory credit (see previous paragraph) in order to be considered a satisfactory credit risk.
Remove Disputes on Credit Report
All disputed items on your credit report need to be removed prior to submission to an underwriter.
You can have disputes removed by contacting the company that put the disputes on for you, or you can contact the credit agencies directly and ask to have the dispute removed.
If a dispute is on a recent delinquent account, it could affect your credit score once the dispute is removed. Most older disputes will not affect your credit score in my experience.
Need a Second Opinion?
The most important thing to remember is that medical collections and charge-offs are generally not counted against you.
If you’re doing this research to try to figure out if you should even try to get pre-approved, don’t get pre-approved, it’s probably not as bad as you think.
If you’re not sure, and you need a second opinion, I’m pretty easy to reach, and happy to help.
Feel free to ask any questions below, or by email. This is an opportunity for you to anonymously ask an experienced professional that has absolutely no financial interest in how they answer your questions.