FHA Reopens the Housing Market to Those with Damaged Credit during Recession

On Thursday August 15^th 2013, FHA announced a new set of guidelines under the FHA program specifically geared toward homeowners and prospective homeowners adversely impacted by the Great Recession. These changes are on Handling of Collections and Disputed Accounts. (See Mortgagee Letter 2013-24 for detail information).

This guidance is effective for all case numbers assigned on or after October 15th, 2013.

This program reopens the housing market to a many borrowers who would otherwise have been waiting for 3-7 years to tick off the clock--depending on their initial credit issue--before being able to qualify for a mortgage.

As a result of the recent recession many borrowers who experienced unemployment or other severe reductions in income, were unable to make their monthly mortgage payments, and ultimately lost their homes to a pre-foreclosure sale, deed-in-lieu, or foreclosure. Some borrowers were forced to file for bankruptcy to discharge or restructure their debts. Because of these recent recession-related periods of financial difficulty, borrowers’ credit has been negatively affected. FHA recognizes the hardships faced by these borrowers, and realizes that their credit histories may not fully reflect their true ability or propensity to repay a mortgage.

The program will require prospective borrowers to thoroughly document the nature of the "Economic Event," that it resulted in derogatory credit, and that there has been a satisfactory recovery from the Event per the new guidelines. The "Back to Work" program, as it's called, doesn't constitute a free pass for those who would otherwise be unable to qualify for financing.

A summary of new guidelines is shown below. For complete and detail information about these changes, please visit http://www.hud.gov/answers or view a copy of the Mortgagee Letter 2013-24 from
 http://www.texasfivestarrealty.com/documents/FHA_Mortgagee_Letter_2013-24_Collections_and_Charge-offs.pdf   

Collections and judgments may indicate a borrower’s disregard for credit obligations and must be considered in the creditworthiness analysis. The guidance below applies to loans with collection accounts and all judgments. Medical collections and charge off accounts are excluded from this guidance.

Regardless of the amount of outstanding collection accounts or judgments, the lender must determine if the collection account or judgment was a result of:

·         The borrower’s inability to manage debt; or

·         Extenuating circumstances.

·         The borrower’s disregard for financial obligations

The borrower must provide a letter of explanation with supporting documentation for each outstanding collection account and judgment. The explanation and supporting documentation must be consistent with other credit information in the file.

Collections - FHA does not require collection accounts to be paid off as a condition of mortgage approval. However, FHA does recognize that collection efforts by the creditor for unpaid collections could affect the borrower’s ability to repay the mortgage. To mitigate this risk, FHA is requiring a capacity analysis of collection accounts with an aggregate balance equal to or greater than $2,000, as described below.

If the total outstanding balance of all collection accounts for all borrowers is equal to or greater than $2,000, the lender must perform a capacity analysis as detailed below. Unless excluded under state law, collection accounts of a non-purchasing spouse in a community property state are included in the cumulative balance.

 

All medical collections and charge off accounts are excluded from this guidance and do not require resolution.

Judgments - FHA requires judgments to be paid off before the mortgage loan is eligible for FHA insurance. An exception to the payoff of a court ordered judgment may be made if the borrower has an agreement with the creditor to make regular and timely payments. The borrower must provide a copy of the agreement and evidence that payments were made on time in accordance with the agreement, and a minimum of three months of scheduled payments have been made prior to credit approval.

Borrowers are not allowed to prepay scheduled payments in order to meet the required minimum of three months of payments. Furthermore, lenders are instructed to include the payment amount in the agreement in the calculation of the borrower’s debt-to-income ratio.

Disputed Derogatory Accounts Indicated on the Credit Report

If the credit report utilized by TOTAL Mortgage Scorecard indicates that the borrower is disputing derogatory credit accounts, the borrower must provide a letter of explanation and documentation supporting the basis of the dispute. The lender must analyze the documentation provided for consistency with other credit information in the file to determine if the derogatory credit account should be considered in the underwriting analysis.

Guidance for TOTAL Mortgage Scorecard Accept/Approve loans with disputed accounts.

Disputed derogatory credit accounts are defined as follows:

·         disputed charge-off accounts,

·         disputed collection accounts, and

·         disputed accounts with late payments in the last 24 months.

Disputed derogatory credit accounts of a non-purchasing spouse in a community property state are not included in the cumulative balance for determining if the mortgage application is downgraded to a “Refer”.

Non-derogatory disputed accounts are excluded from the $1,000 cumulative total.

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