We’ve written a lot about getting your first mortgage: what to expect, how to go about it and all the fees and different costs along the way, but there’s a significant portion of the market that we’ve been passing over made up of future boomerang buyers. Those of you who have lost your homes due to foreclosure or managed to sell them short aren’t condemned to a life of moving from dumpy rental to dumpy rental — you can buy again.
Once you’re back on your feet, your income is solid and you’ve managed to show a solid history of on-time payments, an increasingly large number of lenders are going to be willing to help you secure a new home of your own. This is partly in response to the incredible number of foreclosures and short sales that were the result of our housing boom and bust, partly because the number of new mortgage applications continue to fall and partly because your fellow borrowers are being more responsible than ever, causing the Single Family Serious Delinquency rates for Fannie Mae and Freddie Mac to fall markedly.
Lenders are scared of making bad loans, but with continued evidence that the average home buyer is willing and able to make their mortgage payments on time, they’re opening up opportunities yet again. And, of course, in some areas there’s still a significant housing inventory, making non-standard forms of ownership possible. Let’s walk through your post-foreclosure options, shall we?
Lender Originated Loans
Depending on how long you’re willing to wait to buy again and how well you’ve managed to re-establish your credit history, you’ve got some options when it comes to buying using some type of standard lender-originated loan. Many lending institutions will make exceptions to their sometimes long wait periods if your foreclosure or short sale was due to circumstances beyond your control — serious illness is probably the most commonly recognized.
Until very recently you’d still be staring down a two or three year wait before you could borrow again, even if there was clearly some kind of extenuating circumstance. That wait time wasn’t all bad, though, it gave a borrower time to prove they could make their payments on time, save some money for a down payment and really sort out their budgets so they didn’t have to deal with another foreclosure down the road.
However, with the FHA’s new Back to Work program, this time has been shortened to as little as a year, provided a borrower meets several requirements, including:
Loss of Household Income. A loss of at least 20 percent of your household’s income prior to the foreclosure that can be documented is a necessary requirement. This income had to be lost due to economic factors, not due to the loss of a spouse to death or divorce, and it had to last at least six months.
Documentation. You’ve got to be able to back up what you tell your lender with paperwork — sometimes, you’re going to need a lot of it. The more complete the paper trail, the more likely the FHA is going to believe your income loss was out of your control.
Paid Collections and Judgements. Part of reestablishing your credit is satisfying the old creditors. Anything outstanding that was in collections or was showing as a judgement must be paid in full, and if you’ve got a letter from the creditor saying the debt was satisfied, that’s even better.
On-Time Payments. You’ve got to be squeaky clean. After your foreclosure, you can’t have late pays, collections, evictions or repossessions, period. You’re going to have to prove to your lender that you can make a mortgage payment — by making all your other payments, you’re giving them ample evidence.
Adequate Income and Employment. It’s been tough for a lot of people and FHA knows that, but they also don’t want to have to foreclose on your home again, so you’re going to have to show them that your financial situation has improved. An increase in income to pre-foreclosure levels or steady income with fewer bills is going to be vital to your case.
Housing Counseling. Even after you prove your case, you’ll have to undergo housing counseling. This is a short one-on-one with professional housing counselors who will answer any questions you have about housing, budgeting and the like and give you ideas about ways of staying out of financial trouble in the future, even if you were to suffer another economic hardship.
Borrowers approved for an FHA Back to Work loan have all the same benefits and responsibilities as other FHA borrowers. You’ll pay mortgage insurance, your taxes and homeowner’s insurance, for example, but you’ll also enjoy the same type of home ownership you did the in the past. Eventually, as you pay on your new mortgage, you’ll become eligible for other types of mortgages, so when you’re ready to move up to a bigger house for your growing family, you’ll have many more loan options.
|Loan Type||Standard Wait Time||Exceptional Circumstances|
|Conventional||7 years||3 years|
|FHA||3 years||1 year|
|VA||2 years||2 years|
|USDA||3 years||3 years|
Going It Alone
Your lender-originated options are still limited, I won’t lie, but they’re viable provided you can prove your foreclosure or short sale was due to serious economic woes and you’re well on the way to recovery. If you’ve not managed to convince the local banks that a family tragedy or the economy was directly responsible for your inability to repay your old mortgage, you’re not totally out of options — you can go it alone. When the banks won’t lend to you, but you’ve got ample income and savings, owner financing is a possibility. It’s not always a perfect solution and you’re not going to have a ton of options, but often sellers who can’t seem to sell will finance their property to you so they can stop making an extra house payment.
There are three major types of owner financing you may see in practice: the owner-carried first, contract for deed and a lease with an option to buy. Technically, that last one isn’t a form of owner financing, but many Realtors lump them in together, so I think it’s important that you understand the differences. You’re also going to need some legal help, so don’t skimp on the assistance.
An owner-carried first works just like a mortgage in most states. You get all the rights of ownership right away, in exchange for paying a monthly fee to the previous owner of the property. You’ll also name them on the homeowner’s policy in the same way you would a bank, just in case your place suffers serious casualty. Unless otherwise specified in the contract, you can do whatever you want to your home as long as you make the payments and pay the taxes. A buyer is much better off having an owner-carried first mortgage, as it offers them the greatest protections.
Contract for deed arrangements are a lot trickier for most people. In these situations, instead of having all rights of ownership right away, you only have some because you don’t get named on the title at closing. The contract you write with the current owner is for the deed of the property, so you get all the rights and the title transferred into your name when you pay the note in full. These contracts don’t have much in the way of standard language, so you’ll have to hash out the details with the seller (you need a lawyer or real estate expert, trust me on this). Make sure you negotiate yourself a grace period for payments, since this isn’t usually a feature of contract for deed agreements.
Leasing with an option to buy is sometimes referred to by inexperienced Realtors or owners as “owner financing.” It couldn’t be any further from owner financing if it were a shoebox. A lease with an option to buy is just that — it’s a lease. You’re renting: no ifs, ands or buts. The “option” is a window of time in which you get the first chance to purchase the home you’re renting. So, if you have a two year lease/option, you’ll have two years of renting, during which you can buy the home for a pre-negotiated price. Rarely, owners will give you some credit toward a down payment, but you’ll have to specifically negotiate that into the agreement. Lease/options aren’t great, I won’t lie, and you’re going to be at a serious disadvantage more often than not.
The Bottom Line
If you can wait to re-establish with a mainstream lender, do it. Not only will you get the advantage of having a loan product that reports to your credit (thus helping to rebuild it), you’ll not have to deal with the many headaches involved with owner financing or sub-prime lending. Most of the time, you don’t have to rush, you really can live without buying a home for a few years.
When there’s some reason you must buy right now, but can’t get an FHA, VA or Conventional loan, check with small local banks and credit unions before you go down the arduous path to owner financing. Owner financing can be a great experience, or it can be a really horrible one — it all depends on the owner who is doing the financing and the contract you manage to put together. Pitfalls to avoid include lease/options that provide no credit toward your purchase, contract for deeds without payment grace periods and unusual clauses in owner-carried firsts.
No matter how you decide to re-enter the market after your foreclosure, make sure to let everybody involved know about your financial situation. Your Realtor can help steer you to lenders who may be more willing to work with you or find a real estate attorney who can help you with the paperwork necessary for an owner finance deal. It’s easy to get scammed at this stage in your financial life, so read everything carefully and be sure you can live with the agreements you make.