To this day, there is still the general belief that in order to purchase a home, you need to have 20 percent down and have good, if not stellar, credit history.
The good news is you don’t need a large down payment. Your credit can be actually marginal, even “less-than-perfect” and you can still buy with competitive financing terms.
To be clear, let’s look at the credit characteristics of what a mortgage lender deems as bad credit when it comes time to qualify for a mortgage loan.
Credit score scale: Outstanding, 740-800; great, 720-740; good, 700-720; middle ground, 680-700; not so good but doable, 620-680.
What a mortgage company determines as bad credit might not be what a consumer considers to be bad credit. A credit score of 620 or higher is required to successfully obtain a mortgage.
By the same token, a 620 credit score is considered to be less-than-perfect credit for a lender but is still achievable.
Credit score determines two major things for a deciding lender: loan program, i.e. conventional, FHA loan type etc.; pricing includes interest rate and any additional charges indicative of the credit score (lower the credit score higher interest rate and/or potential charges).
Credit history is the next hurdle to overcome. Is there a pattern of previous credit delinquencies? Are there old balances on closed accounts? It’s quite common for a consumer to have a 620ish credit score, revealed by a consistent historical pattern of not paying bills on time or paying off balances.
Ironically, this person would have a more difficult time attaining a loan than someone with a 640 credit score with no history of delinquencies other than a recent foreclosure. Crazy, huh? But, completely true. In order of priority, lenders will look at the credit score to determine home loan eligibility.
Next, a complete credit overview will be taken into consideration leading to what questions may or may not arise in the underwriting decision process.
Underwriting will be looking for what happened, why it happened, and the future likelihood of continuance or repeat non-repayment.
Credit history lending red
flags and requirements
• Pattern of delinquencies: Can it be explained and documented? Typically, it’s able to work around, but more lender scrutiny will be given to the amount of down payment and debt against income percentage.
• Student loan late payments: If within the last 12 months, most suited loan program would be conventional financing. Government financing like FHA, does not take kindly to delinquent federal debt.
• Mortgage late payments: One late payment in the last 12 months is permitted so long as it can be explained and fully documented if necessary.
• Foreclosure: Thirty-six months from the date of the foreclosure until eligibility to repurchase using the
3.5 percent down payment FHA Loan, 48 months for VA Loans (no money down required), seven years no matter the down payment on a conventional type.
• Short sale: Thirty-six months from the date of the short sale until eligibility to repurchase using the 3.5 percent down payment FHA Loan, 24 months with the VA, 24 months on a conventional money loan with a minimum down payment of 20 percent.
• Bankruptcy: Chapter 7 (Chapter 13 is less common), 24 months from the date of discharge until eligibility to repurchase using the 3.5 percent down FHA Loan, 48 months on VA Loans (still no money down required), 48 months on conventional no matter the down payment. All mortgage companies have different thresholds of risk appetite. For example, the FHA (Federal Housing Administration) has no credit score requirement. Why, then, do lenders have a minimum credit score requirement of 620 for an FHA Loan? Unbeknownst to the majority of home buyers, many mortgage companies have a secret ominous business strategy.
Enter “investor overlays.”
Investor overlays are adjustments to guidelines and/or pricing created in favor of the mortgage company. This is exactly why one lender can do the loan, and another lender cannot do the loan in some instances.
Overlays further protect lenders against potential future losses from the mortgage loans they originate, preserving profits and buyback risk (situation in which originating lender is forced to buy back from the investor if the loan they made was not fully documented). Investor overlays tighten the screws on borrowers’ ability to qualify. Put another way, it shifts risk, which translates to cost to the consumer by means of limiting ability to borrow via higher loan fees, reduced purchase price, lower debt ratio, to name a few.
Tip: every mortgage lender has investor overlays, it’s the nature of how mortgage companies operate, key is work with the lender whose overlays are minimal.
Homework for consumers:
1. Know your credit score first and foremost. Obtain a copy of your credit report, this will aid you in your discussions in selecting the appropriate lender later on.
2. Get as much supporting documentation as possible surrounding the credit issue so as to the naked eye, the story can be explained backwards and forwards with no stone left unturned.
3. When speaking with a potential loan company, be very specific, do not be afraid to share every detail with as complete a description as possible and find out up front if they have any investor overlays or additional conditions regarding the scope of your previous credit history. Doing so will save you considerable time and money.
Scott Sheldon is a local mortgage lender, with over six years of experience helping people purchase and refinance primary residences, second homes and investment properties. Visit him at www.sonomacountymortgages.com.