How Disputes on Your Credit Report May Impact Obtaining a Mortgage

Reviewing your credit report and disputing information that is being wrongly reported about you is your right under the Fair Credit Reporting Act. Obtaining your credit report and making sure that it’s accurate is financially responsible and your duty to protect your credit. And the Federal Trade Commission provides you tips on how to dispute items on your credit report.  Did you know that lenders may not accept a credit report where it indicates there is a disputed item? 

It doesn’t matter if you have perfect credit or a low loan to value, Fannie Mae and Freddie Mac guidelines are forcing lenders to provide a credit report without disputes. I’ve recently had transactions where the borrower doesn’t recall disputing anything and the debtor doesn’t have record of the dispute yet this “dispute” needs to be removed from the credit report or the lender/bank will not accept the loan. This is one reason why anyone considering a mortgage for refinancing or purchasing a home should obtain a copy of their credit report very early on. It can take a great deal of time to have disputes removed if a borrower does this on their own.  

The other option is for a “rapid rescore” which whittles down the process to days. The irony in this is that rapid rescore is not free and it is the credit bureaus and reporting agencies who profit when this service is done – I really have a problem with this when my client and the creditor state there are no disputes of record yet somebody has to pay to have these items quickly removed to accommodate a closing date. Often times, the lender absorbs the cost of the rapid rescore however this eventually drives up the overall cost of doing business and eventually, the consumer pays.

In my opinion, this is something that Fannie Mae and Freddie Mac need to change pronto. Well qualified borrowers should not have to go through these hoops or have their mortgage denied. A simple written letter of explanation signed by the borrowers and possibly the creditor *should* suffice instead of requiring the credit report not show any sign of a dispute. Apparently back in 2009, Fannie was reviewing their policy however, I’m not aware of any significant changes.  

If our government wants to help the housing industry and our economy, this practice needs to stop now.

Paying Alimony? You May Want to Consider an FHA Insured Mortgage

Most mortgage originators know that if you have less than 10 payments remaining with alimony or child support payments, it may not have to be factored into your qualifying ratios (debt to income) as long as the payment doesn't impact your ability to pay the mortgage following closing.  A borrower needs to be well qualified with plenty of savings for an underwriter to support this guideline. 

But it's a little known nugget that lenders can choose to reduce alimony payments from the borrowers income instead of factoring it into the debt to income ratio utilizing an FHA insured loan.  Of course you would only do this if there is more than 10 alimony payments remaining.

"Since there are tax consequences of alimony payments, the lender may choose to treat the monthly alimony obligation as a reduction from the borrower's gross income when calculating qualifying ratios, rather than treating it as a monthly obligation."

For example, Mr. John Doe has a great job earning $250,000 annually.  Due to his recent divorce, he has reduced savings and is now paying his ex-wife $3,500 per month in alimony.   He has about $1,200 in monthly debt plus his existing house payment of $3,200 per month, which he plans on selling after he settles into his new home.  If you factor in his alimony, this totals $7,900 of monthly obligations.  

He's hoping to use an FHA High Balance mortgage to buy a home in Seattle priced at $585,000 with 5% down payment (he likes that at 5%, vs. the minimum 3.5% down, he receives a slight reduction in the annual mortgage insurance).  

This morning's rate for this scenario is 4.375% (APR 5.001) which would create a total monthly mortgage payment of $3,645.00 (principal and interest 2,837.21, mortgage insurance of 299.83, and taxes and insurance of 577.96).

EDITORS NOTE: The above rate was quoted from July 2010 and is no longer valid. If you would like to have a current rate quote for FHA or any mortgage program for homes located in Washington, please click here.

John's monthly gross income is $20,833 (250,000/12).   His front end ratio is 17.5 (3645/20833) which is perfectly acceptable for qualifying with any mortgage scenario.   However, his back end ratio is 55.4 (7900+3645=11545/20833) if you treat his alimony as traditional debt as a conventional mortgage would.   Ideally, a back end ratio should be around 45, the limits can be pushed depending on the financial strength of the borrower and lender guidelines.

With FHA allowing alimony to be deducted from the gross income, the debt to income ratios are changed dramatically. 

$20,833 monthly gross income less the $3,500 alimony is $17,333. 

3645/17,333 creates a front end ratio (proposed mortgage payment divided by monthly gross income) of 21.03.

Monthly debt is reduced to $4,400 when the $3,500 alimony is not factored.  Add the proposed total monthly mortgage payment of $3,645 and the back end ratio is 46.41 (4,400+3,645=8,045/17,333).

Reducing the alimony from the gross income takes the debt to income ratio from 55.4 to 46.1 with an FHA insured mortgage.

If you need a mortgage for a home located in Washington state, please contact me.  I've been originating FHA, conventional and VA loans since April 2000 and Mortgage Master Service Corporation has been serving the Pacific Northwest for over 30 years!