About 3 years ago I wrote a book on how to get a mortgage with no money down and bad credit. I recently looked it over with the idea of making this e-book into a web site. I couldn't believe it. The mortgage business has changed so much in the last 9 months that I decided to scratch the book and start over. Below is the result. Read it carefully as most people will require multiple tasks in order to achieve the dream of owning a home. Good Luck.

One last comment. No matter what problems you have had in the past, you can achieve this dream but it will require effort on your part. So rather than go after this dream hoping for a simple solution that requires only a small amount of effort and finding yourself in the same situation 2, 3 or 12 months later, give this dream the attention it deserves. And in the current mortgage environment don't wait. It will be tougher to get a mortgage the longer you wait.

 

How to get a Mortgage With Bad Credit

for a New Home

Introduction

For someone wanting a mortgage to buy a home with bad credit, there are really only three ways to get a mortgage. 1) Seller financing, 2) A gift of equity and 3) An FHA mortgage loan. I excluded sub prime as the only "sub prime" lenders remaining have raised their loan requirements so high, they are essentially "A" or "A-" loans. The first one will most likely require a down payment of at least 10% and the second, while not all that rare is probably not an option so I will cover these two options but only briefly.

 

Seller Financing

This is a great way for home buyers to get a mortgage to buy a home with bad credit. As I said earlier, it will probably take a down payment of around 10% but most home sellers aren't savvy at evaluating someone's credit. Unlike FHA loan requirements, the down payment can come from a friend, relative or you can even borrow it. You just need to find a motivated seller with no mortgage and there are plenty of them out there in today's housing market. If you find a very motivated seller that has a mortgage, you can do a lease purchase where you might have to come up with 5% or even 0% down. Just be sure you have an attorney draw up the docs and have the seller credit some of your payment toward your agreed upon future purchase price. Talk with your attorney about being able to monitor the status of the seller's mortgage if they have one. You don't want to wake up one day and be kicked out due to the seller being foreclosed on. The key to keep in mind here is to focus more on the deal rather than the home.

 

 

Gift of Equity

I was really surprised the first few years I was in the mortgage business at the number of gift of equity deals that were being done. Utilizing a Gift of Equity to get a mortgage to buy a home with bad credit is another good option.

A gift of equity is very similar to a seller second (See def. #21 below). The main difference is instead of the seller taking a second mortgage to lower your LTV, the seller “gifts” you some or all of their equity. This is and must be done from a blood relative. It may sound hard to believe but it happens more than you think. It usually happens when Aunt Sally is retiring to a smaller home or maybe a nursing home. She sells the home to a relative but instead of receiving the full purchase price, a portion is gifted. This gift portion can be any amount but is most often just enough so that the loan to value is low enough so you would qualify. As in the seller second scenario above, part of the purchase price is credited to you to cover closing costs. This lowers your LTV (Loan to Value) making it easier to qualify for a loan since there is less risk to the lender. This may be the best if not only to get a mortgage loan with bankruptcy in the last year.

 

FHA Loan

FHA loan criteria are the most forgiving for high LTV loans and the most popular way to get a mortgage to buy a home with bad credit. While sub prime mortgages were extremely credit score dependent, FHA loan criteria are not. However, after the sub prime implosion FHA lenders (FHA does not loan money. They simply guarantee loans that meet FHA requirements.) FHA lenders started setting their own FHA loan requirements. More on this further down as well as what you need to do to get an FHA loan but right now I will address what the FHA criteria are, particularly as every lender is different. While the FHA loan requirements are hundreds of pages, rather than put you to sleep with all the nuances I will give you a good overview. This will allow you to easily see if you qualify now or what areas you need to focus on to qualify as quickly as possible.

1) Income Requirements - Generally, FHA loan guidelines require you to have had a stable job history for 2 years. Job gaps require a good explanation. Overtime can only be used if consistent over the past 2 years in the same job. Child support and alimony count if received (verifiable) and consistent and may be grossed up, probably around 15%. Social Security can also be grossed up probably 25%.

2) For mortgage loans with bankruptcy in the last year you can't get an FHA loan. However Chapter 13's don't have this restriction but you need to have paid on time. You can also be in a Chapter 13 if the court allows you to take on mortgage debt. There also is one exception for mortgage loans with bankruptcy in the last year (Chapter 7) and that is for a significant once in a lifetime medical event such as cancer. Find a mortgage broker who will work with you and who has a lender who will underwrite this type FHA loan.

3) You need a 3% down payment, which can come from a close relative or from the seller through a gift fund provider. The seller pays them a fee of ~$300.

4) The home needs to appraise for the full purchase price. An appraisal higher than the purchase price does not change the transaction or loan. The only money you might get back at closing is your appraisal fee and earnest money.

5) Debt to income ratios (Congress is trying to raise these.) are 31% for the house payment including mortgage insurance, taxes and insurance and 43% for these plus all other debts including child support & alimony being paid unless they will run out very soon.

6) Trade Lines. You need 4 trade lines with good payment history. If you don't have any showing up on your credit, FHA allows alternative trades such as rent, utilities, day care, monthly insurance, etc. It is best if one is for rent. If you have been living rent free, you need to have shown the ability to save an amount approximately the size of your potential house payment for at least 3 months prior to applying for a mortgage.

7) FHA loan criteria allow for mobile homes if not too old and if they are on a permanent foundation, although I would strongly suggest you not buy a mobile home. They depreciate, are expensive to insure and most lenders have stopped making FHA loans for mobile homes.

8) Credit - I have saved the best for last because this is the biggest hurdle for people in getting a mortgage to buy a home with bad credit. This has recently become a moving target lately (not by the FHA but by FHA lenders). This is explained further down this page.

 

 

Mortgage Terms You Should Be Familiar With

During the process of seeking a mortgage loan you will hear a lot of mortgage terms. Unfortunately, many mortgage professionals don't take the time to explain these terms. Knowing their meaning can help you better understand the process. Following are definitions of a number of terms you may hear to help you:

1. Credit Score – This is the most important element when requesting an alabama home mortgage. It is the middle score of the scores reported by the three credit bureaus. If you had only two scores (one of the bureaus thought you didn't’t have sufficient credit history to report) lenders use the lower of the two. One very important fact you should know is that a credit score you pull will be different (sometimes significantly) than your score when credit is pulled by a mortgage broker or lender. This is because mortgage credit scores are arrived at through a different model than regular consumer credit. As you can imagine, the scoring model puts more weight on mortgage payment history.

2. Loan to Value or LTV and CLTV – LTV is the allowed amount of your first mortgage as a percentage of the lower of the appraised value or purchase price of the home. CLTV is the allowed total mortgages (1st and 2nd) as a percentage of the lower of the appraised value or purchase price of the home. The difference in the two is the second mortgage amount allowed.

3. Debt to Income or DTI – The percentage calculated by dividing your total monthly debt payments by your income. The housing component in this includes 1/12th of your annual homeowners insurance and property taxes. Alimony and child support count as a debt if you owe these. They count as income if you receive them. Most lenders gross up income from Social Security by 25% in these calculations. Consult your Broker but most lenders allow this ratio to be no more than 50%. There are a few at 45% and at 55%. FHA DTI ratios are 31% for the housing component (mortgage payment, insurance, taxes and mortgage insurance) and 43% for these and all other debts.

4. Mortgage Insurance or PMI (Private Mortgage Insurance) – For a traditional Prime and government Alabama home mortgage this is a monthly fee calculated from your credit score and the percentage LTV of your Mortgage above 80%. Nearly all sub-prime lenders (the few remaining) do not charge this fee. It’s essentially built into their rates. The federal government recently made mortgage insurance tax deductible. Consult your tax adviser for the particulars. One more note on Mortgage Insurance. With the implosion of the Sub prime mortgage business, many Mortgage Insurance companies are not insuring up to 100% below certain credit scores.

5. Appraisal Comps or Comparables – Short for comparable sales, this is recent sales in your area of similar homes that an Appraiser uses to calculate the value of your home. A lack of comps, such as in a rural setting can cause significant difficulties in obtaining financing. Keep in mind that how much other homes are for sale for is of little or no use to an appraiser. Also, how much other homes are listed for is not a consideration.

6. Underwriter/Underwriting – The process of evaluating the package submitted to the lender requesting a mortgage. Underwriters review documents and appraisals to insure you meet their requirements for a particular mortgage program. Government program underwriters have a lot more flexibility than Sub prime underwriters. They can accept letters of explanation so as to negate a derogatory item.

7. Adjustable Rate Mortgage or ARM – An Alabama mortgage loan where your rate can increase or decrease set ranges at certain times based on set financial data allowing you a lower rate initially. While there can be significant risk with ARMs, you can dramatically lower this risk by a) not buying the maximum house you qualify for b) Implementing your plan for increasing your score and c) Buying, maintaining and improving your home so that it goes up in value before your initial rate period expires creating a lower LTV when you refinance.

8. Pre-payment Penalty – A fee charged by some lenders (some states regulate this) if you payoff your mortgage (refinance or sell) before a certain period. This usually comes into play with ARMs. Many Morgage companies do not charge pre-payment penalties but some still do. Ask to be sure.

9. Late Payments – While an mortgage lender may charge you a late fee after a certain “grace period” (usually 15 days) from when the payment is due as well as call you requesting payment, for credit purposes a payment does not show as late on your credit until it is 30 days past the due date. This is true of other debt, although credit card companies will hike up your rate and charge fees at the first opportunity. Remember, the 30 days late is from the due date, not the grace period date. Typically a lender will charge you a late fee of around 5% of the mortgage payment amount after the 15 day grace period.

10. Appraised Value vs. Purchase Price – A lender bases your loan and allowed LTV as a percentage of the sales price, even if the appraised value is higher. The only exception to this is for USDA loans which will use the Appraisal so as to cover closing costs (no cash back). Certified Appraisers estimate the value of a home based on recent (usually within the last 6 months) sales in your area. What other homes are for sale for has no weight on the appraised value. Most brokers require you to pay for the appraisal up front, even if it's a no money down deal. In some cases, you might get a little money back at closing if a seller credit for closing costs exceeds the closing costs net of the appraisal fee you paid up front as well as any Ernest money. Lenders will not allow you to receive cash back at closing just because the appraised value is higher than the purchase price. For 100% financing, you may be able to get your Earnest money or Appraisal money back at closing.

11. Verification of Rent or VOR – This is where a mortgage loan program requires proof from a lender as to the timeliness of your recent (usually the last 12 months) payment timeliness history. Always pay your rent on time and by check so you have cancelled checks as proof of your payment history. A statement from an individual you are renting from as to your payment history is of no value to a lot of lenders, particularly if you are buying the home you are living in. If you are living in someone's home rent free, some lenders will allow a rent free letter to eliminate the need for a VOR. It just depends on the lender and program.

12. Verification of Employment or VOE – This is simply a form to be filled out and signed by your employer as to your pay and employment history. There is also a section as to how likely your future employment is. Even after this document is submitted, most lenders will do a verbal verification the day before or of closing.

13. Income Requirement – For a Mortgage, this is expressed in terms of DTI (Debt to Income) covered earlier, except for minimum disposable income cover later in this section. FHA mortgage requirements allow a max DTI of 43%.

14. Income documentation - Many mortgage programs average your Year to Date pay. Be careful about counting on overtime in your pay. If you don't have a consistent history of overtime, they may not allow it.

15. Good Faith Estimate – This is one of the RESPA documents mentioned above that covers estimated closing costs and cash (hopefully zero or very little) you will need to bring to closing in the form of a certified check.

16. Full Doc – This is simply a mortgage industry term meaning you will income and assets can be verified. Rates for Full Doc loans are lower than for stated Income or Lite Doc loans. There are also No Doc loans. These carry the highest rates. For sub-prime loans, only income is verified except for money needed at closing which sometimes will be verified a few days before closing. Many Sub prime lenders have added programs where you can use bank statement deposits to support your income. They are also calling these Full Doc loans. FHA loan requirements are all Full Doc.

17. Collections and Charge-Offs – Lenders who covers the sub prime market typically allow a certain amount (usually around $5,000) of these items shown on your credit report within the last 24 months not to include items included in a previous bankruptcy.

18. Stated Income and No Income Verification – This is where a self-employed individual can “state” (within reason for the type profession they are in) their income and not have to prove it with 2 years of tax returns. These type loans require higher scores for the same LTV as a “Full Doc” loan along with a higher interest rate. Due to the sub-prime implosion, these programs for over 90% have disappeared.

19. Income Documentation – Proof of your income. It can be a computer-generated pay-stub (within the last 30 days), W-2s, 1099s, tax returns (for self-employed) and VOE (Verification of Employment, usually rechecked the day of or before closing) or any combination.

20. Seasoning – The time funds are required to have been in your bank or other account. You used to only see this in rare situations for sub-prime loans and for all Conforming loans, but now you see the requirement on most home loan purchases.

21. Seller Held 2nd – Where a portion of the purchase price of a home is taken by the seller in the form of a second mortgage. Some lenders allow these, some don't. Some lenders only allow these on lower LTVs.

22. Gift of Equity - Where a portion of the purchase price of a home is given up by the seller in the form of a gift. Only works in the case of relatives. This is a great way for buyers to get into a home with very poor credit due to the usually lower LTVs. i.e.. If a couple is buying a grandparents home for say $90,000 which includes a $5,000 credit for closing costs and prepaids and the appraised value is $112,500, then the borrowers only have to qualify for an LTV of 80%. many Sub prime lenders will do an 80% loan with a mid credit score of 500. FHA mortgages allow a cash gift from a close relative for a down payment.

23. Arm’s Length Transaction – A real estate transaction such a sale of a home between unrelated parties. Related parties would include a) Relatives, b) Employers, and c) Financially related parties such a landlords and tenants.

24. Primary Wage Earner – On mortgages involving more than one person, the primary wage earner make the most money. Their score is the primary score used to determine what loan program they qualify for, however there are some minimum requirements for the secondary wage earner such as a minimum credit score. For most Sub prime lenders, the co-borrower needs at least a 500 middle credit score. Be careful of counting overtime, if one of the borrowers has been in their current job less than 2 years. A lender may not count the overtime.

25. Rural Property – Usually property in a limited developed area as reflected on the appraisal. A Mortgage lender usually goes by the appraiser although I have seen a lender overrule an appraiser.

26. Disposable Income Requirements – A calculation of the remaining money left after deducting debt payments including the mortgage and property taxes and homeowners insurance from gross monthly income. Most lenders will adjust this by the number of family members. This minimum requirement is usually around $1,000. A few lenders will go to $600.

27. Child Support - Child support is counted just like any other debt unless the support ends in less than 10 months. The same is true for Child support Income. Child support is not grossed up. FHA mortgage requirements are that Child support be caught up or require documentation that the child support is on track to be caught up.

28. Discount Points - While a lender can charge points if acceptable by the customer, points are usually paid for the purpose of "buying down" the interest rate.

29. APR or Annualized Percentage Rate - This is the effective interest rate on a loan after adding in most of the closing costs. It is only a calculated rate.

30. Gift Money or Gift Funds - Primarily used in government loans (FHA, VA, USDA), this is money from a blood relative used as a down payment or partial down payment or to help cover closing costs. FHA loan requirements include a 3% gift for the down payment. It can be from a close relative or from the seller through one of the gift fund provider. The seller pays a fee for this of around $295. Some lenders are no longer allowing a Seller paid gift for the 3% FHA down payment despite FHA loan requirements allowing this (for now).

31. First Payment Due Date - Normally the first payment on a Mortgage is due the first of the month following the first full month after a closing. i.e.. if a loan closes the 17th of March, the first payment would be due May 1. The only exception would be if a loan closes in the first few days of a month, some lenders will give the customer the option of an "interest credit" for those days, resulting in the first payment being due the first of the following month.

32. Title Insurance - This is insurance to insure that you have a clear title to your property. While all lenders require title insurance for their loan, most will give you this option. Take it.

33. No Closing Cost Loans - Be careful here. There are no free lunches. You are paying one way (through a higher interest rate) or another. Note the spread between your interest rate and the APR %. This is a good indicator of the amount of closing costs (the bigger the spread, the higher the closing costs). It is a good way to compare offers if you don't have an itemization of closing costs.

34. Job Change when applying for a home loan- While this is not really a term, you need to understand how most lenders look at job changes. In summary, a job change when you are bettering yourself is not a problem with most lenders just as long as you are in the same line of work. Most programs require you to be at your new job one full month.

35. Self-employment - Documentation for self-employed individuals usually consists of tax returns for the last 2 years and sometimes a lender will request an interim statement for the current year. One way around low income reflected on a tax return for some lenders is Bank Statement deposits. FHA loan requirements do not allow bank statements to be used as income documentation.

36. Child Support as Income - Child support is counted as income for a Home Mortgage as long as it will continue at least 2 years, you have proof that you have been receiving it the last year or 2 (depends on the lender) and you have the divorce decree with the terms of the child support.

37. Social Security and Social Security Disability Income Calculation - Obviously, Social Security and Social Security income can be counted as income. The one thing many people don't know is that most lenders allow the income to be grossed up around 25% (depends on the program) in qualifying a home buyer for an Home Mortgage.

38. Trade Lines - This is simply a liability you are paying on regularly. Most people have a number of trade lines that don't show up on credit (rent, utilities, etc.). Most Mortgage lenders want to underwrite a loan based on trade lines that show up on credit. However, FHA loan requirements allow these alternative trades to be used in qualifying for an FHA loan.48. Homeowner's Insurance - All Mortgages require homeowners insurance to be paid up for a year at closing. If you escrow, they will take a few months out at closing to fund your escrow account.

39. Seller credit for closing costs - For Sub prime and government Mortgage loan programs, the maximum credit toward closing costs and prepaids is 6%. Many conforming programs only allow 3%. Also, some lenders will not let the sales price to be above the multi list home price in order to capture more closing costs.

40. 80/20 Mortgage Loan - This is two loans closed simultaneously for 100% financing. The first mortgage is for 80% of the purchase price or appraised values when refinancing and the second, which carries a much higher rate is for 20%. Some lenders will only do an 80/20 mortgage in order to lend 100% of the purchase price or appraised value. There are also 80/15 mortgages and 80/10 mortgages. These 100% mortgage programs are virtually gone.

41. The Mortgage Process (for purchases) - The typical steps are 1) Complete an application, often over the phone or in the broker/lender's office, 2) Credit is pulled, 3) A preliminary review of your credit and income is made to see if you appear to qualify for the mortgage you are requesting (It is best if you know how much house you qualify for before you start looking), 4) You gather and submit income and other documents to the broker or lender, 5) You find a house you want to buy, 6) You negotiate a deal and submit the contract as part of your documentation, (A Broker/lender may issue you a conditional approval letter at this point but you are really NOT approved yet) 7) An appraisal is ordered to be sure the home is worth the purchase price (this protects you as a buyer as well as the lender), 8) Your application, documents and appraisal are submitted to underwriting, 9) Underwriting comes back with a denial or an approval typically contingent on a few additional documents to be sure all is OK, 10) After the last documents are submitted and approved a closing is scheduled where you sign all the necessary documents, bring any money necessary and take title to your new home.

42. Escrow Accounts – This is like a savings account that the lender holds for you with designated payments added to your regular payment. If you choose to have an escrow, it will mean you have to bring some money to closing to get these setup. Ask if you can set one up later. Most lenders will allow this so you won’t have to bring money to closing. All FHA mortgages require escrow.

43. Income Paid in Cash - Unfortunately, cash income cannot be counted as income for the purpose of qualifying for a mortgage. If you deposit this income into a bank account, you might be able to prove the income to an understanding underwriter.

 

 

 

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