CHAPTER 5
Getting Your Credit Together
Credit is the single most important risk element when applying for a mortgage. Information about you and your payment histories is evaluated and logged each and every time you make a credit purchase, apply for credit, or even make a payment. Knowing how credit can both help and harm you when lenders look at your loan application is key.
5.1 WHAT EXACTLY IS CREDIT?
Credit means I’m going to loan you some money and you’re going to pay me back. If you pay me back on time, every time, I’ll be happy to lend you more money or make a loan the next time you need it.
There are several definitions of credit, but it really boils down to two terms: “ability” and “willingness.” Ability means that you can afford the monthly payments. Willingness means you care about paying the loan back. Ability means that you make $5,000 per month and you can afford a $200 car payment. Willingness means you actually make the payments on time, every time they’re due.
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One of my clients was a vice president of a publicly traded company, so he made lots of money. He had the “ability” to pay his bills on time. But the “willingness” was not so evident. No, he never cheated anyone out of their money, but he was often late with his payments. As a result, his credit was damaged when it really didn’t need to be.
On the opposite side are people who have the “willingness” to pay but not the ability. Yes, John Doe would really, really like to pay the money back for a new castle, but his pocketbook can only afford a two-bedroom condo. Willingness alone is not enough. Nor is ability. It takes both to make for a good credit profile. And it means paying when you’ve agreed to pay it back, not when you get good and ready.
There’s a misconception some people have about paying back money lent to them. “They’ll get their money, I never cheated anyone” is not necessarily the same thing as paying back a loan as agreed. Loan agreements of any type always state what the payment will be and when those payments will be made. That’s the “due date.” The due date can be any set time, not necessarily the first of the month, but there is indeed a specified time when you need to pay. Paying back money “sooner or later” won’t cut it.
5.2 HOW WERE CREDIT BUREAUS ESTABLISHED?
In the past, when you wanted to borrow money or open a credit account, you’d sit in front of a banker or department store manager, apply for the credit, and the bank would contact other places where you might have borrowed money before to see if you paid on time. If you did, you probably got the loan. If you didn’t, you probably wouldn’t get the loan, or if you did get the loan, it would be at a higher interest rate. But this was still a cumbersome process, both for the prospective lender and the borrower. So credit repositories were invented.
A repository, like a library, is a place to store records. A credit repository is a place where credit histories are stored. Merchants and banks agree to store consumers’ credit patterns in a central place that other merchants and banks can access. Instead of taking a loan application and literally writing to or calling all the listed credit references, lenders now just enter the person’s name and Social Security number and pull all the credit information listed in the record bank.
Quicker loan decisions mean more loans can be made. Merchants contribute to these mutually beneficial entities as reporting members of the repository. Other repositories emerged, with the three major ones being Equifax, Experian, and TransUnion.
5.3 WHAT’S IN MY CREDIT REPORT?
It contains a list of companies where you applied for credit, what your credit limits are, and if you’ve paid on time. And more. There’s also quite a bit of personal information. It contains not only your full name, but also any other name or nickname you might have used to apply for credit. If your name is John Q. Public you may have several different ways that your name might be listed. One creditor might have you listed as John Public while another creditor has you as John Quincy Public, or even J. Q. Public. All the various ways you may have applied for credit will show up here along with your Social Security number. Are you a Jr. or Sr.? Name variations will appear as well. Your credit report will also contain where you live now and any previous addresses as listed with creditors, along with your birth date or age and employment information.
In addition, you may find certain public records in your credit report. You won’t find your driver’s license number or private information, but you might find anything gleaned from public records, such as tax liens or judgments and bankruptcies. Other information found will be who else has looked at your credit report, called an “inquiry,” and when they looked at it. If you applied for an automobile loan last year, then you’ll see the name of your auto lender here. If you’ve applied at more than one mortgage company, then you’ll see a list of those inquiries, too. Your credit report will list your credit scores as well as which bureau is reporting each score, along with credit scoring comments.
Your credit accounts will show any outstanding balance, when the account was first established, your credit limit, your scheduled monthly payment, and any payment due, along with your payment history.
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The payment histories are listed in groups of 30: 30 days, 60 days, and 90 days. A 1 × 30 late payment means that your payment was received 30 days after the due date. A 60-day late payment means that your payment was received 60 days after the due date, and so on.
The payment history will also show how much you borrowed, what your payments are, and how long the account has been open. If the monthly payment on your auto loan is due on the first of the month but you don’t make the payment until the fifth of the month, that’s not considered late for purposes of credit reporting. If your payment is made past the due date, you might be liable for late payment fees but it won’t be reported as late to the credit repositories. It will only be reported if it’s more than 30, 60, or 90 days after the due date.
If you have a minimum of three credit lines over at least a two-year period and you’ve made your payments each and every time they’re due, then you probably have good credit. If you have those same three credit lines over a two-year period and haven’t made your payments on time, or if some have even gone to collection, then you probably have bad credit. If you have no lines of credit or only one or two with little trade history, you have neither good nor bad credit—you don’t have any credit.
5.4 WHAT’S NOT IN MY CREDIT REPORT?
The credit report gathers information on who you are and how you pay your bills. It doesn’t list anything regarding your race or marital status. If you apply jointly for a mortgage, your marital status might be added to the report but that’s because you applied jointly, as husband and wife. (Unmarried partners, of course, do not show up together on the same credit report.) Your credit report won’t show debt that’s more than seven years old, and it won’t show a Chapter 7 bankruptcy if the discharge date is more than 10 years old. If you had a Chapter 13 bankruptcy, it will stay on your report seven years after the Chapter 13 has been filed. You also won’t find anything on your credit report about your medical condition, trips to a psychiatrist, or your personal life.
5.5 WHAT’S THE DIFFERENCE BETWEEN A CHAPTER 7 AND A CHAPTER 13?
A Chapter 13 allows for repayment of your obligations over a predetermined period, whereas a Chapter 7 completely wipes out all consumer debt except for taxes and child support. It used to be that you would have a choice as to the type of bankruptcy you’d like, but now there is a “means test” that lets you know if a Chapter 7 is even an option for you.
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Recent changes in bankruptcy laws mean you have to “qualify” for a complete discharge of all your debts via the Chapter 7 option. To qualify for a Chapter 7, you need to pass a means test requiring that your income not exceed 80 percent of the median income for your area as defined by the Department of Housing and Urban Development. You can find this information on HUD’s website at www.hud.gov.
If you pass the income test, then you have a choice between the two forms of bankruptcy. If you make more money than the bankruptcy choice allows for, then you are forced to take the Chapter 13 and take three to five years to pay back your creditors.
For instance, if you have some credit card balances, some collection accounts, and other debts, the court-appointed bankruptcy trustee would add up all those balances and work out a payment plan with the outstanding creditors. This plan would calculate your net income less everyday expenses such as utility bills, automobile transportation, insurance, gasoline, braces . . . whatever. The amount left is what’s available each month to settle with your creditors. The trustee will divide that money up between all parties and give them their monthly allotment. You will make monthly payments to your trustee, who will then disperse the funds to your outstanding credit accounts.
5.6 DO LENDERS VIEW A CHAPTER 7 OR A CHAPTER 13 MORE FAVORABLY WHEN REVIEWING A MORTGAGE APPLICATION?
Neither, actually. It might sound a bit surprising, but a lender gives no more and no less credit depending upon the type of bankruptcy filing. At first glance one would think that someone who is trying to pay everyone back would do so by electing the Chapter 13 option instead of a complete debt wipeout of the Chapter 7 type. Instead, lenders who evaluate borrowers with any bankruptcy in their past treat them the very same way and use the discharge date of both bankruptcy types.
If a lender requires that a bankruptcy be discharged before four years have passed, then it doesn’t matter if it’s a Chapter 7 or a Chapter 13. In fact, if it takes five years to pay off a Chapter 13 and a lender requires four years to elapse before a new loan can be placed, then essentially nine years must pass to meet that particular lending guideline. Five years to pay off the debts in order for the Chapter 13 to be discharged, and four years to wait and reestablish credit. Under a Chapter 7 filing, the discharge date is usually about 60 days or less after the Chapter 7 request.
5.7 WHAT’S THE DIFFERENCE BETWEEN “GOOD” AND “BAD” CREDIT?
Good credit is obtaining credit and using it responsibly. This means keeping your debt load low compared to your available credit and paying back your loans when they’re due. Bad credit means doing the opposite. There can be a gray area when it comes to mortgage loans. What’s good for one lender may not be good for another. Most loans require that you have, at minimum, two full years of a credit history. If you opened up your first credit card account last month, you will not have established a credit history. Furthermore, at least three trade lines need to be established. There are three basic types of credit that can appear on your credit report: installment accounts, revolving accounts, and real estate accounts.
An installment account involves borrowing one lump sum and agreeing to pay back a certain amount each month until the loan is paid off. A car loan is an example of an installment loan. A revolving account is a department store account or credit account. You typically have a limit and don’t make any payments until you charge something. A real estate account is a mortgage secured by real estate.
5.8 HOW DO I ESTABLISH GOOD CREDIT?
By opening up three trade lines for a minimum of two years—the more years the merrier—and making your payments on time, every time. Also, by keeping your balances low on those accounts. There isn’t an exact number I can point to, but the generally accepted number is having at least 70 percent of your credit lines available to you. If you have available credit of $10,000 on three credit cards, ideal lines might be $3,000 of money owed and $7,000 unused.
More trade lines? That used to be a no-no if you wanted to have an absolutely sterling credit rating. Keeping the number of active credit accounts to a minimum used to be important, but now it’s not as much of an issue as how you manage those accounts. Having eight accounts with zero balances is better than having three accounts with high balances.
Many people’s first credit cards are from department stores like Sears or JCPenney. Their credit guidelines, though not designed for people with bad credit histories, are less stringent than other types of credit. There are a couple of reasons for this. First, department store or consumer goods accounts are installment loans backed by hard collateral. If you buy a sofa from a department store on credit and don’t make your payments, the store comes and picks up the sofa. Your credit is issued in part on the basis of collateral. Second, most first credit accounts come with a very low credit line. Creditors will wait and see how you pay them back, eventually increasing your credit line based upon good payment history and your ability to pay them back.
5.9 I’VE GOT GREAT CREDIT. HOW DO I KEEP IT THAT WAY?
By doing the very same things that got you the good score in the first place. Keep a few trade lines open, don’t max them out, and don’t open up new accounts. First-time home buyers can be susceptible to their newfound potential wealth.
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A recent college graduate had a couple of credit cards in his name and also owned a car. He needed the car, and credit cards were more convenient for making purchases than writing a check or paying cash. When he checked his credit report (after getting solicitations from several credit companies offering one) he was floored to learn what excellent credit he had. And without even trying! Now that he knew he had great credit he realized that anyone and everyone would open up an account for him.
So that’s what he did. He bought a new HDTV with surround sound, a bigger car, and he borrowed money to take his girlfriend on a romantic cruise around the Virgin Islands. Soon he didn’t feel comfortable anymore. Soon he was sweating his monthly payments and not sleeping at night. Soon he couldn’t even afford to take his girlfriend out as often as he had before. But he was okay, he wasn’t late on his payments, he made sure of that. Maybe late once or twice, but not every month. Soon thereafter he decided he wanted to buy his first home and he went to check his credit report. Ouch. His scores had dropped through the floor. He had opened up too many new trade lines, was at his maximum credit limits, and had some late payments. He would have to wait and fix his credit before trying to buy a home. Now he had to concentrate on his credit profile, something he didn’t have to concern himself with before he found out what good credit he had.
If you’ve got great credit, do what you’ve always been doing and don’t change.
5.10 I COSIGNED ON MY BROTHER’S CAR, BUT HE’S MAKING THE PAYMENTS. WILL THIS AFFECT MY CREDIT?
You must realize that while helping out your brother, you also obligated yourself to the car lender. The car payment history will show up on your credit report as if the car belonged to you. If your brother is late, the late payment will show up on your report and will hurt your credit. It doesn’t matter if you tell the credit reporting company that it’s not your car. It may not be, but it’s your obligation.
Anything you cosign for becomes your obligation. Especially a mortgage. If you help someone get a mortgage, then know that the mortgage payment will not just show up on your credit report, but it will also count against your debt ratios. Some lenders won’t count that mortgage if you can provide 12 months’ worth of canceled checks showing that the person you helped has been making the payments on his or her own without your help. Some lenders, however, won’t, especially if the mortgage is new and there’s no payment history. While it’s a nice thing to do, if you cosign, understand that your credit reputation will be at the mercy of whomever you helped. If they’re late, you’ll be late.
5.11 WHAT SHOULD I DO FIRST TO IMPROVE MY CREDIT?
Get your credit report as early as you can and review it for accuracy. Although you can get your report from most anyone (according to your junk email every day), go direct to the source at Equifax, Experian, or TransUnion. The Fair and Accurate Credit Transactions Act (FACTA) of 2003 allows consumers to get one free credit report each year, regardless of whether they’ve been declined, approved, or have even applied for credit. Without knowing what’s in your report, you won’t know what to work on.
Incorrect information is, unfortunately, not an uncommon finding among credit reports. If you’re not the only Bill Smith in Detroit, it’s possible that other Bill Smiths have information on your report.
5.12 WHAT HAPPENS IF I FIND A MISTAKE ON MY REPORT?
The credit repositories tell you to challenge the alleged mistake, in writing, and if they can’t verify that the entry is correct within 30 days then they must, by law, remove the item. Remember, there are three major credit repositories. If you find a mistake being reported to Equifax, you also need to make sure the same mistake isn’t being reported to Experian or TransUnion. The FACTA of 2003 provides that if one mistake is corrected at one repository, that mistake should automatically be corrected at the other remaining repositories. And even then, get confirmation that the other bureaus received the correction. If you find a house, make a down payment, and want to close within 30 days, it’s a bad time to find out there’s more than one Bill Smith out there.
5.13 CAN’T I WRITE A LETTER EXPLAINING MY SIDE OF THE STORY TO THE CREDIT BUREAUS?
Sure you can. And you have the right to include any explanation you deem fit to be reported along with your credit information. Unfortunately, this type of letter carries little, if any, weight when loans use an internal AUS or credit scoring, which we’ll discuss further in Chapter 6. “Explanation letters” on file at the credit agency have nothing to do with a credit score or AUS. The only thing they might be good for is when a lender is really deciding whether to approve your loan and the lender wants something handwritten by you in the file. Otherwise, consumer letters in a credit file don’t have much of an impact.
5.14 CAN MY LENDER HELP FIX MISTAKES IN MY CREDIT HISTORY?
The easiest way to correct a mistake might very well be through your lender or mortgage broker, not the credit repository itself. In fact, it’s the easiest way. Lenders regularly work with companies that collect credit information and provide reports to the lenders to help them make credit decisions.
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Lenders and credit agencies work together each and every day in established business relationships. Lenders are customers of the credit agencies. Credit agencies hire marketing specialists and account representatives to call on lenders and mortgage brokers and solicit their business. One of the services credit companies offer is to correct mistakes on credit reports for lenders. Not many outside of the lending industry know about this, but it’s done every day.
One of my clients who was buying a loft noticed that on his credit report a previous lender had mistakenly entered multiple 30-day late payments on his credit account. This mistake was killing his credit. Fortunately, the client had copies of everything he needed to prove his case, including canceled checks and copies of statements. If he had done it the old-fashioned way and mailed his documentation to the credit bureau and waited for 30 days, it would have been too late.
Instead, he provided me with his documentation, which I promptly forwarded to my account representative at the credit company. She verified that, in fact, the credit report was in error. There were no late payments. Within minutes the mistake vanished. Within a day the credit scores were recalculated as if the damaging item never existed. This is hard to duplicate with the bureaucracy of a credit repository.
One big caveat is that the mistake needs to be verified by a third party. Your lender won’t be able to fix a mistake on your credit report simply on the basis of a letter from you saying so. If it’s a case of mistaken identity, simply comparing the Social Security numbers is enough. If it’s a collection account that has been paid but not yet reflected as such on your credit report, then a “paid in full” letter from the creditor or collection agency is enough. Don’t expect everyone to take your word, albeit earnest, to correct anything.
5.15 WHAT DO I NEED IN ORDER TO PROVE SOMETHING IS A MISTAKE ON MY CREDIT REPORT?
You’ll need to have some data to back up your claims. Otherwise, the information won’t leave your report. If you and the creditor have a disagreement and they’re sending the credit agencies a past-due bill, get the information that’s being reported and provide third-party documentation proving your side. A simple “Did not, did too, did not, did too” won’t cut it.
A common problem with such a scenario is that, yes, you might have paid off the past-due balance, but there was a lingering late fee or past-due charge not reflected on the final bill. Many times such small charges won’t be reported, or worse, they are ignored by the consumer. When that happens, your credit report reflects a past-due account and your refusal to pay. Credit reports are reports, not people.
5.16 WHAT ABOUT MORTGAGE COMPANIES THAT ADVERTISE “BAD CREDIT, NO CREDIT OKAY”?
There are lenders that specialize in mortgages for people with bad credit, and we’ll explore those loans in detail in Chapter 7. Such loans, normally called subprime loans, underwrite to different guidelines from a conventional mortgage. So, yes, you can get a mortgage with a bankruptcy discharge as little as one hour ago, but with a larger down payment and higher monthly payments. Typically it’s not a situation of “if” someone can get approved for a mortgage, but at what term and cost.
5.17 WHAT ABOUT A COSIGNER?
The best use of a cosigner is with an FHA loan, because they make the most liberal use of the nonoccupant coborrower’s income. If you’re having a hard time qualifying due to your ratios, get a cosigner and research one of these loans. Cosigners are usually relatives (although they don’t have to be in all cases) who agree to pay your mortgage if you default. They also usually don’t live with you. This isn’t as common as it used to be, primarily because the guidelines for nonoccupant coborrowers (i.e., cosigners who don’t live with you) for conventional mortgages have changed significantly over the past decade. It used to be that if someone’s credit was shaky he would find a rich uncle somewhere who would agree to pay the mortgage if ever that payment became late. Or a cosigner was recruited because the buyer didn’t make enough money to qualify on her own. Soon, lenders raised an obvious question: If the buyer can’t qualify on his own to buy this house, why are we making the mortgage in the first place? Good question. Lenders then adopted policies that, while allowing for cosigners, also required the buyer to have debt ratios similar to those of borrowers without a cosigner whatsoever.
Not so with FHA mortgages. These loans still take into account all the qualifying income, regardless of whether it’s from the owner-occupant or the nonoccupant coborrowers.
Even more misunderstood is that while cosigners may have excellent credit, that in no way makes up for the buyer’s bad credit. I have gotten many calls from potential home buyers saying, “I want to warn you up front that I have terrible credit, but my folks are willing to cosign.” While using cosigners still works quite effectively with automobiles and other installment debt, it’s not as easy with real estate. Fall behind on the car payment, goodbye car. Fall behind on mortgage payments and hello lawyers, foreclosures, missed housing payments, and so on. Cosigners just don’t have the same effect as they once did with regard to credit issues. If you have bad credit and your parents want to cosign for you, ask them instead to buy the house as an investment property, with you living there. Their good credit won’t erase your bad.
5.18 CAN A SELLER ASK FOR A COPY OF MY CREDIT REPORT?
Sure they can ask, but that’s about all they can do. The only thing a seller needs to know is if you’ve been qualified for a loan. It’s none of their business what type of loan you get or what your rate and terms will be. Sometimes, if a seller thinks that the buyer is getting a mortgage from a subprime mortgage company, the seller suddenly thinks there’s a problem and wants to back off from the deal.
This also applies to a seller who wants to see the terms of your loan as a condition of the sale. If you have a subprime loan and the seller notices your interest rate is a couple of percentage points higher than market, the seller might mistakenly assume there’s going to be a problem with closing. Keep your credit report and your loan terms to yourself; it’s none of the seller’s business. Is your agent asking the same thing? Same answer. Tell him or her politely that you got a good deal and you’re ready to close. Did your real estate agent refer you to a loan officer? If so, there’s most likely a business relationship established there. They’ve done deals together before and they always talk to one another about their various closings.
Again, your real estate agent has no business nosing around in your loan file. Your mortgage application is a private document between you and the lender. It is both improper and illegal for a loan officer to divulge anything regarding credit or income status from your application. How much money do you make? What business is it of theirs, anyway? Right. None.
5.19 WHAT IS ALTERNATE CREDIT?
Alternate credit in relation to mortgage loans is sometimes called nonstandard credit. These are items you must pay each month but won’t appear on your credit report.
Alternate credit accounts might include your telephone bill. You get a telephone bill every month, you pay it on time, and your phone has never been disconnected due to nonpayment. The same goes for your electricity bill or water bill. While such items aren’t reported as installment or revolving credit, they can in fact establish your ability and willingness to make consistent payments in a responsible manner.
Certain loans ask for alternate credit if no credit has been established. In those cases, lenders typically want to see two to three of these accounts documented, with copies of monthly statements and copies of canceled checks showing timely payment.
5.20 I HAVE BAD CREDIT AND WAS CONTACTED BY A CREDIT COUNSELING COMPANY THAT WANTS TO HELP REESTABLISH MY CREDIT. CAN THEY DO THAT?
Sure they can. But you need to be careful in choosing the company and also understanding the impact it will have on your overall credit report.
You can find listings of credit counseling services in the telephone book or on the Internet. Many of them are nonprofit organizations that fall under the umbrella term of credit counselors. These companies help you sort out your credit problems and put together a program that gets everyone paid back but still gets the creditors off your back without filing for bankruptcy. Don’t be fooled into thinking that all of the advertisements hawking credit repair or credit counseling services are the same. They’re not. Sometimes you can find a company that claims it can settle all of your bills and get your debts reduced or even eliminated. Sometimes such companies are firms that help you file for bankruptcy. Some are nonprofit, some are not.
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A credit counselor will evaluate your current income and debt situation and recommend a budget for you to follow. In the meantime, this company has contacted your creditors and helped arrange a new payment plan for you at reduced rates or at a reduced debt balance. At the end of each month, instead of paying all your money to the various companies to which you owe money, you send the money to the credit counselor, who then takes those funds and disburses them to your creditors under the new terms.
You need to carefully research the credit counselor to make sure they’re on the up-and-up and are doing what they say they’re going to do. Will they take your money and make the payments on time or will they also be late? If a credit counselor takes your money yet continues to be late on your obligations, they’re hurting your credit even more.
In addition, it’s critical to understand that a lender can view a credit counselor plan just as harshly as they would a bankruptcy discharge or a Chapter 13 wage earner plan. If a lender sees that you’re currently in credit counseling, it will affect your ability to get a mortgage. Even though credit counseling can be a good thing, it also shows the lender that you recently got yourself in financial hot water and aren’t out of it yet.
If your bills are getting you down and you want to explore using a credit counselor, then by all means get going with it. Just be a wary consumer and understand the impact it will have on your credit report.
5.21 CAN I ERASE MY OLD CREDIT REPORT COMPLETELY AND START ALL OVER AGAIN?
You can, but creating a new identity can be illegal. Although some companies claim they can establish a brand-new identity for you, nothing can be “erased” from your credit report or from public records. If you have a foreclosure and it’s recorded somewhere in a county courthouse, then how can some company wipe that record clean without breaking into the county recorder’s office and swiping the record? They can’t, of course. No company can erase something that’s on your credit report.
Fix mistakes? Sure. Counsel on credit guidance? Happens every day. Help challenge credit entries? There are legitimate means to challenge any credit entry. But there is no such thing as “erasing” and starting all over unless you change your name and Social Security number and begin applying for credit at local department stores for a new revolving account.
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But let’s say that you do this. Let’s say that you find some sleazy company that, for a hefty fee, tells you how you can be a brand-new person. At least in the eyes of a credit bureau. You start all over, ignoring all the old bills attached to the “old” you and focusing on establishing a “new” you. After your new persona gets some accounts established over two or three years you’ll begin to see some credit scores pop up. At this stage they’re significantly higher than the ones you left behind. So you decide to buy a house and apply for a loan.
If you apply for a mortgage using another identity, you’re committing loan fraud. The loan application Form 1003 asks you if you’ve ever been known by any other name. If you say “yes,” they’ll want to know that name and look up that person’s credit report. Yuck. If you say “no,” then you’re lying. People go to prison for lying on mortgage applications. I’m not kidding.
5.22 I HAVE GREAT CREDIT, BUT MY SPOUSE HAS TERRIBLE CREDIT. WHAT DO I DO?
If you’ve got good credit and your spouse has bad credit, there’s really no way to “average” your overall credit standing. One way to overcome this problem is to see if you can qualify by yourself and leave your spouse off the loan.
There’s a distinction between home ownership and who’s responsible for paying the loan back. You can designate almost anyone you choose to have a legal interest in the property and have their names recorded on your title report. Heck, you can have Santa Claus appear on the title of the property as long as you can get him to show up at closing to sign a deed. But that doesn’t mean your lender will come after ol’ Santa if you can’t pay your mortgage. Title ownership, or legal interest in the property, is much different from paying back a home loan. So apply for the loan by yourself and have your spouse listed on the title report.
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The trick is being able to qualify for the mortgage while also assuming your spouse’s credit obligations. Here’s a for-instance.
You met the love of your life, got married, and proceeded to go on with life. Soon after, you found out that your spouse’s credit was ruined long before you were married. Even though those credit accounts were opened way before you met, they’ll still show up on your joint credit report. After all, if a lender is evaluating your credit application based upon your ability and willingness to repay the home loan, the lender will take your spouse’s past and present loan obligations into consideration, paying no attention to whether they were paid on time. For better or worse, right?
A spouse who brings love and happiness into your life may also bring all those late payments to Nordstrom’s. You can’t erase this information when applying for a home loan together. But you can leave the spouse off the loan application if you can qualify by showing you are able to afford the Nordstrom’s bill, even though it wasn’t yours before you got married. If you can keep your debt ratios in line with guidelines while at the same time assuming responsibility for your spouse’s payments, then you should be able to get a new mortgage loan. You will keep the spouse on title, but not on the note anywhere.
5.23 MY “EX” HAS SCREWED UP MY CREDIT. WHAT DO I DO?
Keep your divorce decree handy so you can show who the judge said was responsible for paying what. Getting divorced is a bad thing. What many people don’t realize is that the ex-spouse can mess up your credit report long after the ink is dry on your final divorce decree. I know, I know. The judge said he could have the house and the car and you could have all the credit cards, but if you applied jointly for the house and the car, the lender, quite frankly, couldn’t care less about your failed marriage. The lender agreed to make a loan to both of you, whether or not your relationship worked out. If you split up, that doesn’t dissolve either person’s obligations to pay.
The judge may have the ability to assign credit obligations to either party in such a case, but the judge doesn’t have the authority to absolve either of you from paying someone back. Only the lender can do that. Let’s say you had bought a house together and your ex-spouse got the house while you signed a piece of paper agreeing to release all interest in the property. Fine. But there’s still a mortgage outstanding. Here’s where you need to be careful. If your ex is responsible for the mortgage and the car, unless you get off the original loan you may still find late payments on your credit report.
Let’s say you give away the home and sign a warranty deed to your former spouse. Unless your ex refinances the loan, the payment history might still appear on your credit report. That’s just the way it works. To compound the problem, if you needed both incomes to qualify for the original loan, then your ex may not be able to qualify for a refinance in the first place. In this instance, not only do you need to release all interest in your old home to your ex, you must also have the original loan refinanced to get you off the mortgage completely. The same is true for the car and any other loans you might have obtained together. A divorce decree isn’t sent to the credit agency when you get divorced. If you’ve been divorced, you need to get your ducks in a row and review your credit report long before you apply for a mortgage.
Some loans make allowances for legal assignments as to who’s responsible for what, and although those obligations may not be taken off your credit report, any loans still in your name might not be considered. Keep your divorce decree. If you can’t find it, get a copy of it. While a divorce decree won’t erase joint obligations, for qualification purposes, at least, old credit items might be excluded from your application when it comes time to determine debt ratios.
5.24 HOW WILL LENDERS VIEW OUR CREDIT REPORT IF WE’RE NOT MARRIED?
Your application will be reviewed just like any other. It’s a common misconception that unmarried couples can’t apply for a mortgage loan together. They certainly can. You don’t have to be married to apply for a mortgage. You can apply by yourself or with someone else. Both your credit and all of your coborrower’s credit will be reviewed together. All you need to do is complete a loan application, and your joint incomes, bills, and credit profiles will be underwritten regardless. Don’t worry about it. Okay, that’s easy for me to say, but really, apply for the loan.
5.25 HOW LONG DO I HAVE TO WAIT IN ORDER TO GET APPROVED FOR A MORTGAGE IF I DECLARED BANKRUPTCY IN THE PAST?
You’re probably not as bad off as you think. Some lenders ask that your bankruptcy be discharged for two years and still others ask that the discharge be four years old. A common misunderstanding about mortgages and bankruptcies has to do with how long a bankruptcy stays on the credit report. A Chapter 7 bankruptcy, where debts were simply wiped away, will stay on your credit report for 10 years. A Chapter 13 bankruptcy, sometimes called a “wage earner plan,” can stay there for up to 10 years, but is usually wiped away seven years after the filing date. But that is only how long that information will stay on the credit report, not how soon after the discharge you can get financing. Furthermore, conventional loans will allow a discharge to be less than two years old under extenuating circumstances.
The waiting periods for FHA and VA loans are two years since the discharge of a Chapter 7 bankruptcy, three years for a USDA loan, and four years for a conventional mortgage. We’ll talk more about the differences between these various loan programs in detail in Chapter 7.
I recall a client in Los Angeles who had a bankruptcy discharged about eight months before she applied with me to buy a condo. Unfortunately, she had been flat-out turned down by at least three other mortgage companies before she found my office. Since her bankruptcy was less than two years old, the loan officers she spoke with had incorrectly told her that she would have to wait another year and a half to be eligible for a mortgage loan. However, she had an extenuating circumstance that made it possible, under Fannie Mae guidelines, for a mortgage to be issued to her.
Although she was an attorney, her husband had been the primary wage earner until he unexpectedly passed away. Death to the primary breadwinner can be an exception. We took her loan and put her in her new home within a few weeks.
This case illustrates an exception. Extenuating circumstances don’t include getting overextended or having your business fail. In either of those scenarios, there is some control by the borrower.
5.26 I FILED A CHAPTER 13 BANKRUPTCY AND I’M STILL MAKING THE PAYMENTS. CAN I GET A MORTGAGE NOW?
It’s possible with an FHA loan. FHA allows for the purchase of a home provided that the monthly payments to the trustee are made on time (so be prepared to provide canceled checks showing timely payment) and you have the permission of the trustee to buy a new home. Why would you need permission? A trustee may wonder why, if you can garner enough money for a down payment and closing costs, you don’t use those funds to pay off your Chapter 13 debt. I’ve not heard of a trustee denying a request like this. I’m sure there are cases where permission is not given, but usually it isn’t a problem. However, if you have been late by more than 30 days on one or more of your trustee payments, you can expect some difficulties getting a loan approval. In fact, any late payments during or after a bankruptcy filing or discharge can keep a mortgage out of reach until the derogatory information falls completely off the credit report.
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Lenders want to see that those who have experienced a recent bankruptcy have returned to their responsible payment patterns. A bankruptcy is most often the result of a life-changing matter and is not expected to occur again in the future. It’s a one-time event that was probably out of the individual’s control. When mortgage lenders review a credit report when evaluating a mortgage request, they also want to see no more late payments on any credit account. Even if there is just one payment listed on the credit report as being more than 30 days past the due date, most lenders will turn down the loan request.
Mortgage lenders want to see credit reestablished with no payments more than 30 days past the due dates and have at least three such timely credit accounts on a credit report with at least a two-year history.
Which brings up another question: How can someone get three credit accounts so soon after a bankruptcy? This is often a classic “catch 22” where a mortgage lender will consider a mortgage application just a couple of years after a bankruptcy, but what creditors will issue credit and report it to the credit bureaus so soon after a bankruptcy has been discharged?
The answer is, there are companies who specialize in helping consumers rebuild credit. For those who want to get back into the mortgage game later on, it’s important to take advantage of these offerings and be absolutely responsible with them. It won’t take long to find such companies because they will find you. If you have a bankruptcy discharge, you will soon see offers to open up a credit account in your mailbox, either secured or unsecured.
A secured credit card is one where the consumer makes a cash deposit to the creditor who holds the funds for a set period while the credit card is being used. The deposit is often the same amount as the original line of credit issued but doesn’t have to be. For example, a credit card might have a $500 credit limit but require a $500 deposit. The deposit isn’t used to make future monthly payments—you’ll still have to make those on time—but in case of default, the deposit is kept.
An unsecured card is one that does not have a deposit as security with just a limited credit line available. Such credit card accounts set the original limit at around $300 or so with reviews of your account every six months. If you’ve made your payments on or before the due date—not after—the creditor may increase the credit line. Once you’ve begun to make timely payments and the information is sent to the credit bureaus, you will begin seeing more credit offers in the mail. But be careful and don’t get back in too much debt.