Calculating FHA Collections Mortgage Guidelines

Homebuyers can qualify for an FHA loan with outstanding collections and charged-off accounts

This article covers Calculating FHA Collections Mortgage Guidelines:

Homebuyers can qualify for an FHA loan with outstanding collections and/or charged-off accounts. The outstanding collections and charged-off accounts do not have to be paid. Here are the main topics we will cover in this article:

  • Qualifying for an FHA loan with outstanding collections and/or charged-off accounts
  • Medical versus non-medical collections
  • Judgments and tax-liens

HUD, the parent of FHA, has the most lenient guidelines when it comes to bad credit.

Qualifying for an FHA Loan with Outstanding Collection Accounts

Borrowers can qualify for FHA Loans with outstanding collection accounts.

HUD, the parent of FHA, does not require you to pay off the outstanding unpaid collection account balances in order to qualify for FHA Home Loans. However, FHA will count a percentage of any outstanding non-medical collection account balances.

HUD requires mortgage underwriters to use it towards calculating borrower monthly debt to income ratios.

Types of Derogatory Credit Tradelines

Calculating FHA Collections by mortgage underwriters:

Types of derogatory credit accounts:

  1. Non-Medical Collection Accounts
  2. Medical Collection Accounts
  3. Charge Off Accounts

Judgments and Tax Liens:

  • We can briefly discuss how mortgage underwriters calculate judgments and tax liens

Calculating FHA Collections on Non-Medical Collection Accounts

Borrowers do not have to pay off outstanding collection accounts in order to qualify for an FHA loan under HUD mortgage lending guidelines.

If outstanding unpaid collection accounts on non-medical collection accounts is greater than $2,000, the following rules apply:

  • than 5% of the outstanding collection balances of all of the unpaid debts will be used in calculating monthly debt to income ratios
  • this holds true even though you do not have to pay anything to any creditors

Case Scenario On How Mortgage Underwriters Calculate Hypothetical Monthly Debt On Outstanding Collections

For example, if the total balances add up to $10,000 for all of your creditors and/or collection agencies:

  • Then FHA requires 5% of the outstanding unpaid $10,000, or $500, to be used in calculating the borrower’s debt to income ratio
  • The $500 per month is a hypothetical debt
  • It does not need to be paid but will count as a monthly expense for borrowers

Any outstanding unpaid collection account balances under $2,000 that are non-medical collection accounts do not count in calculations of the borrower’s debt to income ratios.

Credit Disputes During Mortgage Process

What are credit disputes during the mortgage process

Mortgage borrowers cannot have credit disputes on any charge-off accounts and non-medical collection accounts if the total of the outstanding collection account balances of all of your collection accounts is greater than $1,000.

Borrowers need to retract all non-medical credit disputes with outstanding collection account balances as well as all charge-off credit disputes before they are able to proceed with the mortgage application and mortgage approval process.

A pre-approval letter should never be issued if there are a lot of credit disputes on a borrower’s credit report. Retracting credit disputes drops the borrower’s credit scores.

How much will it drop?

That depends on the type of credit disputed item but it can drop significantly. If a home buyer barely qualifies for a 3.5% down payment home purchase FHA Loan with the minimum 580 credit score required and needs to retract credit disputes, chances are that the borrower may no longer qualify.

They may no longer qualify for an FHA loan with a 3.5% down payment. This is because HUD requires the 580 FICO minimum. The mortgage loan officer will help borrowers in boosting credit scores back up after they retract credit disputes.

Credit disputes on non-medical collection items with zero credit outstanding balance are exempt. Paid-off collection accounts are exempt. Medical Collection accounts with outstanding balances are exempt from credit disputes and you can have credit disputes on medical collection accounts.

Medical Collections and Charge Off Accounts

The great news is that FHA does not care about medical collection accounts with outstanding unpaid balances and charge off accounts:

They are not calculated in debt to income calculations of borrowers. Most charge-off accounts will have a balance reporting on the borrower’s credit report.

Mortgage underwriters ignore charged-off accounts.  Underwriters will not use it for debt to income ratio calculations. As mentioned earlier, borrowers cannot have credit disputes on any charge-off accounts.

Borrowers need to have the credit disputes on all charge-off accounts for your mortgage loan approval process to proceed.

Judgments and Tax Liens

How to calculate FHA collection and judgments and tax liens

Borrowers can have outstanding judgments and tax liens and still qualify for FHA Loans:

Judgments and/or tax liens:

HUD  requires borrowers to pay the outstanding tax lien and/or judgment or be on a  written payment agreement. Lenders require borrowers to make three monthly payments on judgments and tax-liens.

You cannot make advanced payments of the three months of payments seasoning required.

Agency Guidelines Versus Lender Overlays

Unfortunately, most mortgage lenders will have additional requirements in addition to the minimum FHA Guidelines On Collection Accounts called FHA Investor Overlays.

Most banks will require that you pay off all of your outstanding unpaid collection accounts in order for you to qualify with their institution even though it is not an FHA Guideline to pay off your outstanding collection accounts.

Also, paying off your older collection accounts will drop your credit scores  This is because it re-activated your aged dormant collection accounts and re-activates them like it is recent activity.

To qualify with a lender with no overlays, please contact us at 262-716-8151 or text us for a faster response. Or email us at [email protected] My staff and I are available 7 days a week, evenings, weekends, and holidays to take your calls and answer any questions you may have.

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