Over the previous several months mortgage lenders, and therefore customers, have seen many changes to requirements to obtain a mortgage loan. Conventional loans have seen the most changes, leaving FHA financing as a great alternative to many potential home buyers. So what does it take to obtain a FHA loan these days?
About FHA
FHA, or Federal Housing Administration, is a part of HUD, the Department of Housing and Urban Development, and has been around since 1934 to assist people in purchasing a home. FHA does not actually provide the mortgage loans directly to the home buyer, but rather insures the loan against default by the borrower. Mortgage lenders then provide a mortgage to a borrower as long as they are within the guidelines, explained below, with FHA insuring the loan. FHA provides more lenient underwriting guidelines to open up the door to home ownership to more people who want a part of the American Dream.
For more information on FHA and the history of FHA, check out HUD’s website about the Federal Housing Administration.
FHA Loan Requirements
All mortgage loans provide guidelines for lenders to follow when determining if a potential borrower is qualified to obtain mortgage financing and FHA is no different. The difference between FHA and conventional mortgage guidelines is the rigidity of the guidelines provided. Typically, conventional mortgage loan guidelines must be followed closely while there is some wriggle room within FHA financing. Here are the general guidelines for FHA financing:
- Three years must pass since a forclsure
- Two years must past from the discharge of a Chapter 7 Bankruptcy
- One year must pass since the structure of the repayment plan on a Chapter 13 Bankruptcy
- Must have made all payments on time for that one year period
- No tax liens or judgments still outstanding
- Unless a payment plan has been agreed upon and on time payments have been made for a one year period of time
- Few to no outstanding collection accounts
- Generally on time with all payments
- This is one of the rules that provides some wriggle room and allows for some late payments shown on the credit report
- 29/41 Ratios
- No more than approximately 29% of monthly gross (before taxes) income should be used to pay the total PITI payment
- No more than approximately 41% of monthly gross income should be used to pay all debt payments, including the new mortgage payment
- Normally, about 2.85% down payment must come from your own funds, a gift from a relative or a non-profit organization
- This requirements changes on January 1, 2009 to 3.5%
- Minimum investment of 3%
- Although the down payment requirement is currently 2.85%, the borrower is required to have a minimum of 3% invested into the transaction, which typically means they would pay a portion of their closing costs, too.
- This will also change, effective January 1, 2009 to 3.5%
I Thought You Said FHA Guidelines Weren’t Rigid
Given all the guidelines I provided above, exceptions can be made. One of the best changes to mortgage guidelines, qualifications and underwriting has been the creation of Automated Underwriting. Automated Underwriting provides a tool for mortgage lenders to deviate from the strict mortgage guidelines and provide mortgage financing to borrowers who do not meet the guidelines exactly. This goes for both conventional and FHA mortgages. Let me share a story about a customer of mine (name changed for obvious reasons”.
Several months ago, Frank applied for a mortgage with me and therefore we completed a pre-qualification to see how his financial situation looked. Things weren’t great. He had an auto loan where he had made some late payments over the previous 4 months, showing two 30 day lates, a 60 day late and a 90 day late on his credit report as recent as the month prior to him applying for the loan. In addition to the late payments on his car, he had one late payment on a credit card and an outstanding collection account around a balance of $250. He did not meet the requirements of the FHA loan as described above. After completing the pre-qualification, I was unsure of my ability to get him financed, so I suggested we work on completing a pre-approval. I requested he provide documentation (bank statements, pay check stubs, W2s, tax returns) so we could work on submitting his loan to an underwriter. While I was waiting to get his documentation, I heard he had selected another mortgage lender to work with because that other lender gave him more hope than I did.
I don’t like to provide false hope to my customers, so I provide the most realistic and up-front explanation of how I think their qualifications look, based on my experience. Moving on…
I set aside his loan and assumed I wouldn’t talk with him again. Several weeks passed and all of the sudden I get a call from the customer stating that his other lender was unable to do his mortgage, after all, and that he wanted to see if there was anything I could do for him. He was scheduled to close on a home in about a week and a half. We scrambled to get all the documentation we needed and I ran his loan through the Automated Underwriting system, and guess what!? I got an APPROVAL.
All mortgage lenders use the same Automated Underwriting system to underwrite FHA loans, and therefore this other lender should have been able to do what I did, but apparently did not believe they could get the loan approved, or didn’t even try. Either way, this is the importance of selecting a great mortgage lender to assist you.
We went through the remaining steps to approve his loan, fund the mortgage and close on the purchase of his first home.
I give you this story, not to too my own horn, but rather provide an example of how Automated Underwriting allows lenders to deviate from the traditional FHA guidelines and still provide mortgage financing. This does not mean that everyone will be able to get a mortgage, but it does provide more options than if a lender just goes by the strict guidelines.
Life Gets In the Way
Life happens, right? There are certain events that life brings that are horrible and can drastically impact your life in a split second; events such as a death of a child or spouse, automobile accident or any other large event that could not have been foreseen or avoided. Events such as divorce or getting into too much debt are not occurrences that are considered to be extenuating circumstances.
If life gets in the way and you are looking to buy a house despite problems in the past, provide the story to the mortgage loan officer you are working with. If they know what they are doing and can structure your loan in a way to provide an overall picture showing your ability to repay the loan, you may be able to obtain mortgage financing even if your loan does not get approved through Automated Underwriting and does not meet the requirements listed above. Here is an example:
A married couple was looking to buy a home using FHA financing but had declared and discharged a Chapter 7 Bankruptcy about 13 months previous (even through the guideline states that 2 years must pass). When asked why they declared bankruptcy they provided a story about how they had their first child to find that the baby was very sick and, eventually, ended up passing away after just a few months. After about $1 million in medical bills, they fought back to get the bills under control and move on. They gave birth to another child, healthy this time a little later. A couple of years later they had another child, with the same medical condition as the first baby. Again, $1 million in medical bills stacked up but this child passed away too. These devastating blows hit them emotionally and financially. They couldn’t keep up. They declared bankruptcy to move on and get back on their feet. It was 13 months later and now they wanted to buy a home. When we pulled the credit report you could see two very obvious time frames where the events occurred. We wrote a letter that explained the situation along with all of the required documentation, and we got the loan approved. It was an exciting time for us, but especially this family.
Another example of how working with a knowledgeable and experienced FHA lender can make a huge difference.
FHA financing is a great option for many prospective home buyers and the requirements to obtain FHA financing are fairly lenient. Find a good mortgage lender, who understands FHA financing and find out whether or not FHA is right for you.
Lending a Hand,
Scott Wynn
