How Will Collections Affect My Ability to Buy a Home?

This Article Is About Can You Qualify For A Mortgage With Outstanding Collection Accounts

Always consult with a loan officer first before starting credit repair or hiring to do credit repair so you can qualify for a mortgage. Collection Accounts and charged-offs do not have to be paid to qualify for a home mortgage.

Credit repair during the mortgage process can backfire. In most cases, credit repair does not help you qualify for a mortgage and can do more damage. Credit repair companies will dispute derogatory credit tradelines and hope the creditor in question does not respond to the credit bureaus in 30 days or less.
If the creditor does not respond in 30 days, credit bureaus are supposed to delete the disputed derogatory credit tradelines. However, there are many instances where creditors will not remove credit disputes even though consumers request it both from the credit bureaus and the creditor.
Credit disputes during the mortgage process can halt the mortgage process.
Mortgage borrowers cannot have credit disputes during the mortgage process unless the credit disputes are exempt. Credit disputes need to be retracted for the mortgage process to proceed.
Once a credit dispute is removed, consumer credit scores will drop. We will discuss the mechanics of how credit disputes impact consumer credit scores. In general, outstanding collection accounts do not have to be paid to qualify for a mortgage. FHA, VA, USDA does not require borrowers to pay outstanding collection accounts to qualify for a mortgage. Fannie Mae and Freddie Mac does not require unpaid collection accounts to be paid on owner-occupant primary conventional loans.

In this article, we will discuss and cover qualifying for a mortgage with outstanding collection accounts.

Agency Mortgage Guidelines On Collection And Charged-Off Accounts

Collection And Charged-Off Accounts

If a consumer does not pay the minimum monthly payments on a debt such as a credit card account, the creditor will report the nonpayment to all three credit bureaus.

The creditor will contact the consumer about the nonpayment. The creditor will try to collect on the debt for 120 days and will report the credit tradeline as an outstanding collection account on the credit bureaus. Some creditors will keep the derogatory credit tradeline as an unpaid collection account while other creditors will charge off the debt and report it as a charged-off account.
A recent collection and/or charged-off account will plummet consumer credit scores by 50 or more points. However, as the collection and/or charged-off account ages, the negative impact will be less significant. Many homebuyers who need to qualify for a mortgage automatically assume they need to clean up their credit. This includes paying older collections and charged-off accounts.
However, unpaid collections and charged-off accounts do not have to be paid to qualify for a mortgage.
Borrowers can qualify for a mortgage with unpaid collections and/or charged-off accounts as long as they can get approve/eligible per automated underwriting system (AUS). Lenders understand hard-working people can go through periods of bad credit when they lose their job or due to other extenuating circumstances where there is a disruption in their income. Eventually, people recover and rebuild and re-establish their credit.

You can have prior bad credit but as long as you have rebuilt your credit and have been timely on all your payments in the past 12 months, there is a great chance you will get approve/eligible per automated underwriting system (AUS).

How Collection Accounts Impact Borrowers Ability To Qualify For A Mortgage

Unpaid collection accounts do not have to be paid to qualify for any mortgage loan program.

This only holds true for owner-occupant primary home mortgages. You can qualify for a conventional loan with outstanding collections on primary owner-occupant mortgages. This holds true no matter how large the outstanding collection account is. Again, this only holds true on owner-occupant primary home conventional loans. So how does a collection account affect your ability to qualify for a mortgage?
Any derogatory credit items that report on consumer credit bureaus will impact credit scores.
However, as the derogatory credit items age, the negative item will have less of an impact on credit scores. Higher credit scores mean lower mortgage rates. At Capital Lending Network, our expert loan officers will help our borrowers maximize their credit scores prior to locking the mortgage rate.
There are a few quick tricks of the trade for boosting your credit scores. Lower credit scores may mean it will be more challenging in getting an approve/eligible per automated underwriting system.

Lower credit scores may cost borrowers discount points due to loan level pricing adjustments (LLPA).

HUD And USDA Agency Guidelines  On FHA Loans

FHA loan On Charge Off Accounts

FHA loans are the most popular mortgage loan program for borrowers with bad credit, lower credit scores, and outstanding collection and charged-off accounts. Both FHA and USDA loans have the same agency mortgage guidelines when it comes to outstanding collections and charged-off accounts.

It is easier to get an approve/eligible per automated underwriting system on FHA loans than any other loan program. Outstanding collections and charged-off accounts do not have to be paid to qualify for an FHA loan. However, if the total unpaid balance totals more than $2,000 balance, HUD requires mortgage underwriters to take 5.0% of the outstanding balance and use it as a hypothetical debt.
The borrower does not have to pay 5.0% of the unpaid collections. It is just a figure used as a hypothetical monthly debt when mortgage underwriters are calculating the borrower’s debt to income ratio. If the 5.0% of the outstanding balance disqualifies the borrower due to high debt to income ratio, HUD allows borrowers to enter into a written payment agreement with the creditor.

The agreed-upon monthly payment amount can be used in lieu of 5.0%. Medical collections and charged-off accounts are exempt from the 5.0% rule.

The Role Of Fannie Mae And Freddie Mac

Conventional loans are not backed by any government agency like FHA, VA, USDA loans are. Fannie Mae and Freddie Mac are the two mortgage giants that set the agency mortgage guidelines on conventional loans.

Fannie Mae and Freddie Mac are the two largest buyers of mortgages on the secondary market.
However, Fannie and/or Freddie will not purchase any loans that do not conform to Fannie Mae and/or Freddie Mac Agency Mortgage Guidelines. Lenders use their warehouse lines of credit to fund mortgages. Once the loans are funded, they need to sell the mortgages they fund on the secondary market as soon as possible. Once they sell the loans on the secondary market, their warehouse lines are paid off so they can repeat the process and originate more loans and repeat the process. This is how mortgage bankers and correspondent lenders make money and how the mortgage banking business model works.

The role of Fannie Mae and Freddie Mac is to provide stability in the mortgage markets.

Fannie Mae And Freddie Mac Agency Guidelines On Unpaid Collections On Conventional Loans

unpaid collections

Fannie Mae and Freddie Mac do not require borrowers to pay unpaid collection accounts on a single-unit owner-occupant conventional loan.

This is not the case for second homes and investment properties. Outstanding collection accounts that total more than $5,000 on second home and/or two to four-unit primary conventional loans need to be paid in full prior to closing. If a borrower is purchasing an investment property with a conventional loan, the maximum unpaid collection account balance they can have is no greater than $250 from a creditor but no greater than a combined outstanding balance greater than $1,000 from all collection accounts.

If the borrower exceeds these numbers, it needs to be paid off to qualify for an investment property conventional loan.

Non-QM And Jumbo Mortgage Guidelines On Collections And Charged-Off Accounts

Non-QM and Jumbo loans are portfolio loans.

Non-QM and Jumbo mortgages do not have uniform lending guidelines like government and conventional loans. Each non-QM and/or Jumbo lender will have its own lending requirements depending on the loan program. Non-QM loans are very lenient when it comes to prior bad credit. However, some non-QM and Jumbo lenders are stricter than others when it comes to outstanding collections and charged-off accounts. Worst-case scenario, you may need to pay outstanding collections in order to qualify with a particular lender on nonconforming loans.

Non-QM lenders can make exceptions in a case by case scenario.

VA Agency Guidelines On Collection Accounts On VA Loans

Va loans on Charge Offs Account

VA loans do not require borrowers to pay outstanding collections and charged-off accounts as long as the borrower gets an approve/eligible per automated underwriting system.  VA has very lenient credit and income guidelines. There are no minimum credit score requirements to qualify for a VA loan as long as the borrower has an approve/eligible per AUS. There is no maximum debt to income ratio on VA loans as long as the borrower can get an AUS Approval. Most lenders have lender overlays on VA loans.
This is why it is important to understand the basic VA Agency Guidelines. Just because you do not qualify for a VA loan at one lender does not mean you cannot qualify at a different lender with no lender overlays. Capital Lending Network, Inc. has no lender overlays on VA loans.


Peter has 7+ years of experience in residential lending. He is a licensed Realtor in the Chicagoland area.

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