This ARTICLE On UPDATED HUD Guidelines On FHA Loans With Bad Credit Was PUBLISHED On October 10th, 2020
UPDATED HUD Guidelines were introduced effective March 18, 2019, on FHA Loans.
- FHA loans are the most popular home loan programs in the United States for homebuyers with lower credit scores and bad credit
- Homebuyers with credit scores down to 580 FICO are eligible to qualify for FHA loans with 3.5% down payment
- Borrowers with under 580 FICO down to 500 credit scores are eligible to qualify for FHA loans with 10% down payment
- However, unless it is an FHA Manual Underwriting, all borrowers need to get an approve/eligible per automated underwriting system (AUS)
- UPDATED HUD Guidelines effective March 18th, 2019, will make borrowers with under 640 credit scores much tougher to get an approve/eligible per AUS
- The automated underwriting system will scrutinize borrowers with under 640 FICO with regards to debt to income ratios, outstanding collections and charged-off accounts, and overall payment history
In this article, we will cover and discuss UPDATED HUD Guidelines on FHA loans for borrowers with under 640 credit scores and bad credit.
Reason For UPDATED HUD Guidelines
The main reason for the UPDATED HUD Guidelines on FHA loans is due to the fact that HUD had concerns about the risk levels.
- Rising home prices and concerns of the global economy were part of their concerns
- Will another Recession be imminent?
- If so, will there be a housing correction?
- Both HUD and FHFA have been increasing FHA and Conforming Loan Limits in the past three years due to rising home prices
- It will be more difficult to get an approve/eligible per automated underwriting system (AUS) for borrowers with under 640 credit scores
- However, this will not affect borrowers who apply for an FHA loan with Gustan Cho Associates Mortgage Group
- If borrowers cannot get an approve/eligible per AUS, the Team at Gustan Cho Associates will downgrade it to a manual underwrite
FHA and VA Loans are the only two loan programs that allow manual underwriting. Manual underwriting is for borrowers who cannot get an approve/eligible per AUS. As long as the borrower can get a refer/eligible findings on the automated underwriting system, we can manually underwrite an FHA loan. Not all lenders do manual underwriting.
UPDATED HUD Guidelines And How This Change Affect Borrowers
UPDATED HUD Guidelines will impact borrowers with credit scores under 640 FICO.
- FHA will be adjusting the guidelines for borrowers with under 640 credit scores, thus, making it tougher to get an approve/eligible per AUS
- More and more borrowers with under 640 FICO will see refer/eligible finding versus approve/eligible per AUS Findings
- Borrowers with under 620 credit scores will see tougher guidelines when it comes to getting an approve/eligible per AUS Findings
- Under 620 credit score borrowers with over 43% debt to income ratios will most likely need to get their files manually underwritten
- More and more lenders will be tightening up on their lender overlays for borrowers with lower credit scores and bad credit
- Today, FHA AUS allows up to 46.9% front end and 56.9% back end to get an approve/eligible per automated underwriting system (AUS) finding
- The UPDATED HUD Guidelines will make tougher for borrowers with lower credit scores to qualify for FHA loans
- Compensating Factors will play a key role for borrowers with under 640 credit scores
- The AUS will recognize borrowers with compensating factors
Having few compensating factors is key in getting FHA AUS Approval for borrowers with lower credit scores.
Importance Of Compensating Factors On FHA Loans With Bad Credit
Compensating Factors will come into play more than ever for borrowers with under 640 FICO. Compensating Factors is required on manual underwriting with high debt to income ratios.
Here is the debt to income ratio caps on manual underwrites on FHA Loans:
- The maximum front end debt to income ratio with no compensating factors is 31% front end 43% back end
- The maximum front end debt to income ratio with one compensating factors is 37% front end 47% back end
The maximum front end debt to income ratio with two compensating factors is 40% front end 50% back end.
What Are Examples Of Compensating Factors
The following is considered compensating factors by mortgage underwriters:
- All manual underwrites require one month’s of reserves
- Having three months of cash reserves (PITI) is one form of compensating factors
- History of saving money
- Proof and/or documentation of residual income (income left over after all personal debts and expenses have been paid)
- Proof and/or documentation of income separate from income used to qualify
- Low payment shock of 5% or less
Here is what payment shock is:
Evidence of a “minimal housing payment increase” – (A minimal housing payment increase would mean that your mortgage payment is slightly more than/close to the amount of your current rent payment.)
Concerns Of HUD With Borrowers Ability To Repay
HUD’s main concern is to make sure the borrowers have the ability to repay their new mortgage loan. HUD wants to make every hard-working family in America to become homeowners. But yet, they do not want massive default and foreclosure rates. Here are the concerns HUD has and due to these concerns, HUD UPDATED HUD Guidelines:
- There has been a big increase in FHA Cash-Out Refinance Mortgages due to the appreciating home prices
- The volatility of the markets and global economy, especially with the recent Trade Wars and Tariff Talks
- Increase of higher debt to income ratio borrowers
- More and more borrowers with lower credit scores are applying for FHA loans
Over the most recent years, FHA has seen a continued downward trend in the above areas. Thus, it adds risk to the FHA loan pool. Such risks mean a higher rate of defaults. Higher defaults mean more FHA mortgage insurance claims. An increase in FHA mortgage insurance claims poses a threat to the FHA loan program. Just in 2018, FHA cash-out refinances increased by about 60% compared to total refinances. Also during 2018, 25% of all FHA forward loans closed with over a 50% debt to income ratio. That is the highest percentage since 2000, which is not a good sign. Finally, FHA has experienced a drop in the average borrower credit score. At an average of 670 credit score, it is the lowest average since 2008. Additionally, 28% of all FHA loans during Q1 of 2019 have under 640 credit scores and 13% under 620.
For more information about the topic of this article and/or other mortgage-related topics, please contact us at Gustan Cho Associates at 262-716-8151 or text us for a faster response. Or email us at email@example.com.