Home foreclosure rates have reached their lowest points in nearly two decades. Just 4% of mortgages nationally are in some stage of delinquency, including foreclosure, according to the latest analysis from real estate data firm CoreLogic. Still, this adds up to thousands of homeowners facing this type of loss every year.
If you’ve recently gone through a foreclosure, it’s never too early to start preparing your finances and credit profile to re-enter the mortgage market. You’ll have to wait up to seven years before your credit score recovers, but there’s plenty to do in the meantime.
There are several mortgage options available with varying eligibility requirements, and some have shorter waiting periods that you may be able to take advantage of, if you qualify. This article will guide you through getting a mortgage after foreclosure.
How foreclosure affects your credit
Having a mortgage foreclosure on your credit reports is a major credit event that negatively affects your credit history and scores. Your credit scores could suffer a 100-point drop, or more.
The three major credit reporting bureaus — Equifax, Experian and TransUnion — begin reporting your foreclosure once a lender says you’ve missed your first payment. That’s when the seven-year time clock starts ticking.
Research from Fair Isaac Corporation, the company that created FICO scores, found that a hypothetical consumer who had a 780 credit score before a foreclosure could see their score decline by 140 to 160 points, to a range of 620 to 640, once the foreclosure hits their credit profile. A consumer who started out with a 680 credit score could see their score drop to a range of 575 to 595 after foreclosure.
Most mortgage programs have a required minimum credit score that ranges from 580 to 640 to qualify. Most also have set waiting periods for prospective homebuyers who have lost a home to due to foreclosure before they can apply for a new mortgage.
How to get approved for a loan after foreclosure
Each mortgage program has its own set of guidelines and requirements for buyers pursuing homeownership again after suffering a foreclosure. Keep reading for a rundown of how each program handles past foreclosures.
Conventional loans are mortgages that aren’t guaranteed or insured by any federal agency. However, they are generally purchased by government-sponsored entities Fannie Mae and Freddie Mac, and thus conform to their guidelines. They usually have higher credit and income standards than government mortgage programs.
In order to qualify for a conventional mortgage after going through a foreclosure, you must first complete the required waiting period. The standard waiting period for conventional loans is seven years. However, extenuating circumstances may qualify you after three years.
Fannie Mae defines extenuating circumstances as isolated events that are beyond a borrower’s control and lead to an income reduction or increase in financial obligations, such as a job loss. You will need to provide your loan officer with a letter explaining why you had no reasonable alternatives other than defaulting on your mortgage.
Freddie Mac requires loan files with extenuating circumstances to contain the following information:
- A written statement about the cause of your financial difficulties to explain the outside factors beyond your control.
- Third-party documentation confirming the events detailed in your statement were an isolated occurrence, significantly reduced your income and/or increased expenses, and rendered you unable to repay your mortgage.
- Evidence on your credit report and other documentation in the mortgage file of the length of time since completion of your foreclosure to the date of application and of completion of the recovery time period requirements.
Generally speaking, conventional lenders require a minimum credit score of 620 and a maximum debt-to-income ratio of 45%. A traditional down payment is 20%, though it’s possible to qualify for certain conventional loans with a down payment as low as 3%. Borrowers who make down payments of less than 20% are responsible for paying private mortgage insurance as part of their mortgage payments.
Insured by the Federal Housing Administration, FHA loans are often one of the first options foreclosed-upon borrowers turn to. If you’ve gone through a full foreclosure and repaired your credit, you may be eligible for an FHA loan in just three years.
In most cases, borrowers must have at least a 580 credit score and a 3.5% down payment to qualify for an FHA loan. The absolute minimum credit score is 500, though the minimum down payment increases to 10% of the home price for anything less than 580. The maximum debt-to-income ratio is 43%, though borrowers with higher DTI ratios can be approved with compensating factors.
Although FHA loans require significantly lower down payments and look for lower credit scores than conventional mortgages, most loans are insured by annual and upfront mortgage insurance premiums, which will increase your monthly mortgage payment.
Upfront mortgage insurance premiums cost 1.75% of the loan amount for the majority of FHA loans. Annual mortgage insurance premiums cost between 0.45% and 1.05%, depending on the mortgage term, loan amount and down payment percentage. And unless you put down 10% at closing, you’ll pay annual mortgage insurance for the life of your FHA loan. The only other option to get rid of mortgage insurance is to refinance into a conventional mortgage after building at least 20% equity.
VA loans are guaranteed by the U.S. Department of Veterans Affairs and allow veterans and active military members to purchase a home with as little as zero down payment. It’s a compelling benefit, but an underutilized one: 1 in 3 home-buying veterans doesn’t realize they have a homebuying benefit.
Depending on your service commitment and duty status, you may be eligible for a VA loan after foreclosure. This program also allows veterans who have experienced foreclosure to get a new loan more quickly than other programs — the waiting period is only two years.
An important thing to note is that if you borrowed a VA loan to purchase the home you lost to foreclosure, you lose your entitlement, or the loan guaranty that protects the lender in the event you default on the VA loan. During the foreclosure process, the VA must pay a claim to your lender equal to the amount of your entitlement.
To have your VA entitlement restored after foreclosure, you’ll need to repay the VA in full for the claim amount it previously paid out to your lender, in addition to completing the waiting period. This must be done before you can again qualify for a VA loan.
Although VA loans are more lenient on credit history than conventional loans, lenders generally look for a credit score of at least 620.
The U.S. Department of Agriculture provides guaranteed loans to low and moderate-income homebuyers looking to purchase a house in a designated rural area. Eligible borrowers can use the loan to build, improve and rehabilitate or relocate a home.
It’s possible to qualify for a USDA loan after a foreclosure with a three-year waiting period. You must have at least a 640 credit score, though you may be approved with a lower score. The maximum debt-to-income ratio is 44%.
Use the USDA’s property eligibility tool to determine whether an address falls within a designated rural area.
For borrowers who don’t fit the standards for conventional loans or those backed by the federal government, another product has emerged — non-qualified (non-QM) loans. These loans are backed by hedge funds and private equity firms, and the additional risk associated with them usually is reflected in larger down payments or higher interest rates.
With non-QM loans, a lender’s primary concern is your ability to repay, and many don’t require a waiting period for foreclosed-upon borrowers.
Depending on how much time has passed since your foreclosure, most loans require at least 20% down, enough money in the bank as a reserve to cover future payments, and an extensive history of documented income.
For example, Atlanta-based non-QM lender, Angel Oak Home Loans, has a program specifically dedicated to serving foreclosed-upon borrowers with bad credit. Their Home$ense program was created specifically for homebuyers who were caught in the recession and mortgage crisis.
Home$ense allows you to begin the application process immediately after your foreclosure has settled. They offer 5/1 adjustable-rate mortgages and 30-year fixed-rate mortgages, each requiring a minimum 10% down payment. The minimum credit score needed to qualify is 500, and they can approve up to $1 million for your loan.
Comparing mortgage costs after foreclosure
A foreclosure can majorly damage your credit score — and your score is a primary factor that lenders determine the interest rates they’ll offer you. Even a small change in mortgage rates can have a big impact on the amount you’ll pay.
For a score that went from 780 down to 620 after foreclosure, your monthly and lifetime costs increase significantly on both conventional and FHA mortgages.
The example below assumes a 30-year mortgage on a $200,000 home with a 20% down payment, or $40,000.
| ||780 credit score||620 credit score|
|Total interest cost||$109,705||$164,521|
|Total loan cost after 30 years||$269,705||$324,521|
The difference in interest for conventional loans at each credit score is nearly $55,000.
The next example assumes a 30-year FHA mortgage on a $200,000 home with a 3.5% down payment, or $7,000.
| ||780 credit score||620 credit score|
|Total interest cost||$132,331||$198,454|
|Total loan cost after 30 years||$325,331||$391,454|
The cost difference between the two credit score tiers is just over $66,000.
Based on these examples, you can potentially save money by waiting to buy a home until you’ve improved your credit score above 620.
Remember, your credit score, home price and down payment will all affect your interest rate. It’s also important to ask about points, mortgage insurance and closing costs, which are not included in these examples.
Financial risks after foreclosure
Foreclosures have financial impacts that can stretch beyond the damage done to your credit scores. If you’ve had a foreclosure, you need to be aware of the risks associated with deficiency judgements. This is when your mortgage lender tries to recoup any losses they incurred after selling your home in a foreclosure auction.
In some states, lenders have the ability to hire debt collectors to go after your remaining debt, court fees and attorney’s fees, plus any interest that has accumulated.
How does a deficiency judgement work? Say you originally took out a mortgage loan of $250,000, but the value of the home decreased to only $150,000 after the financial crisis. If you foreclosed at that point and your lender sold your home at its current value, the $100,000 difference between the loan balance and the price it sold for would be the deficiency balance.
Although deficiency judgements are not a common problem right now, they could come back to haunt you once you’ve recovered from a foreclosure, secured a better job and have started rebuilding savings. Deficiency judgements are still allowed in most states, and the statutes of limitation range from 30 days to 20 years.
You won’t know it’s coming until you receive a court notice, and many times your debt will no longer be with the original lender. Interest may become one of the largest expenses, especially if your debt is old. And once there is a judgement, you’re on the hook for the unpaid balance.
Boosting your approval chances after foreclosure
Regardless of which type of mortgage you decide to pursue after foreclosure, cleaning up your finances will help the entire process go more smoothly. Consider the following tips to help boost your chances at mortgage approval.
Pay down credit card debt
Paying off your credit card debt completely is one of the fastest ways to improve your credit scores. But if you can’t quite pay it all off yet, work on paying down each card to a balance that equal less than 30% of your credit limit. Once you’ve paid down your credit card debt, you should see the change reflected in your credit score in a couple months.
Don’t apply for other credit
Resist the temptation of increasing your debt burden by applying for additional credit products. This includes car loans, store-branded credit cards and other types of financing. Your debt-to-income ratio is one of the most important factors lenders look for when trying to determine your eligibility for a mortgage — it’s arguably more important than your credit score.
Avoid new blemishes on your credit report
Prioritize establishing and maintaining on-time payments for all your debt obligations. You wouldn’t want to begin new waiting periods for negative events to be removed from your credit reports again.
The bottom line
Losing a home to foreclosure can be a devastating experience, but don’t let it stop you from trying your hand again at homeownership in the not-too-distant future. It’s important to take time to explore all available options, selecting a program that best fits your current financial situation and securing the best possible terms.
Our guide was designed to offer you a comprehensive overview of the options that are currently available, but it’s always a great idea to conduct a bit of your own research. As more borrowers prepare to enter the market in the coming months and years, additional mortgage options may continue to emerge.