Jeff, Great post and great summary of compensating factors. This is a definite reblog for both Consumers and Real Estate professionals. Thanks.
FHA Home Loans have been a big part of the home buying process when it comes to your financing options. This might not mean much to many, but when you apply for a conventional loan, if you don't get an automated approval, you are declined. With FHA loans, even if you received a refer in the system, your loan can still be manually underwritten. But there are many guidelines that need to be followed, even for a make sense deal. Especially if your qualifying ratios are above the normal FHA requirements of 31/43. This means that your total mortgage payment (to include property taxes, homeowners insurance, association dues) divided by your gross monthly income can't not exceed 31. This called your front end ratio. Your back end ratio would be your total monthly payment plus any monthly reoccurring debt that would be on your credit report (to include child support and such on your pay stubs) divided by your gross monthly income. This can't exceed 43%. Now, those are the normal qualifying ratios, but they can usually be exceeded by 5% to 6% with a manual underwrite, but depending if you have strong compensating factors. (each lender is different)
So... what are some of the major compensating factors for FHA loans? Please read below ...
The Borrower : (there could be a few more not listed)
- makes a 10% or more down payment on the home.
- shows the ability to save monies consistently and has a conservative use towards their credit.
- shows that there is a minimal increase in their new housing payment from their old payment. Typically a 10% or less increase.
- shows a successful ability in making their housing payments (mortgage or rent) for the last 12 to 24 months. The best proof is when supplying canceled checks. And this FHA compensating factor is much stronger if the previous monthly payments would be the same or greater than the new proposed mortgage payments.
- shows cash reserves. Typically 3 months or more. The higher the ratios, but the more monthly reserves, the better this helps out the borrowers chances. This is just to include liquid-able reserves such as cash from checking or savings accounts, stock options, and 401-k plans, etc. When using such assets as the 401-k plan or retirement funds, only 60% of the total can be used as the reserves. ** you can borrower against such funds for your closing costs and down payment, but these monies won't be counted towards your reserves. This is the same for any gift funds received, that they can't be counted as reserves either.
- can show additional income that is documented but not reflected in their effective income. Such income could be shown as a cash side job that they pay taxes on, maybe income from a spouse who will not be on the mortgage, food stamps, or other public benefits. This is a fine line and up to each lender.
- shows that they do not abuse their credit, not over-extending themselves, and or that they don't borrower from one card to the next.
- can show that they have a potential for increased income because of their education, profession, or potential raise that would be indicated by their employer.
- is relocating with their spouse and the spouse does not work as of yet, but had a history of stable income prior to moving, and has some sort of job/income lined up that can be documented. This can be at the underwriter's discretion.
Minimal FHA compensating factors that could play a role in an underwriter's decision :
- Length of time on the job, showing stability.
- Sometimes in cases of refinancing, the length of time at their residence.
Summary : The mortgage industry is ever changing and yes, some things have gotten tougher. Just because you meet the credit score requirements doesn't mean that you are an automatic approval. And if you need some extra help in qualifying for FHA Loans, you can always get a co-signer, which would be a non-occupying co-borrower. Please read below :
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