Your FHA Loan: Qualifying with Alternative Credit

by Karen Lawson
November 24th, 2009

Prolonged unemployment, illness, and bankruptcy can lead to difficulties in providing traditional credit reports and scoring. You may qualify for an FHA loan if you can document proof of on-time housing payments and current payments from two other sources for the past 12 months.

FHA-insured mortgages can help home buyers and homeowners get back on their feet after major financial problems. FHA guidelines permit bankruptcy and foreclosure; in general, you may qualify for an FHA mortgage loan two years after your bankruptcy is discharged, or three years after having a mortgage foreclosed. It’s no secret that establishing credit is not easy after either of these events, but FHA requirements are more lenient than conventional mortgage underwriting guidelines.

Mortgage Underwriting: Traditional and Non-Traditional

In today’s conservative credit environment, it can be difficult to qualify for a conventional mortgage loan without minimum credit scores of 740 and funds for a 20% down payment and closing costs. As increasing numbers of people experience financial problems resulting from recent economic conditions, FHA home loan programs can provide those with credit problems a chance for owning a home or refinancing an existing mortgage to more favorable terms. Here’s how to provide evidence of “alternative” or “non-traditional” credit for an FHA loan. It’s important to keep in mind that non-traditional credit is manually underwritten and may take longer for approval. Here are the basic requirements:

Minimum Traditional Credit Requirements

  • Credit lines: You must have a minimum of three credit lines in good standing. Two of these must be at least 12 months old, and one must be at least 24 months old.
  • Credit scores: Three credit scores are required for each borrower of record.

Nontraditional FHA Requirements for Documenting Credit

FHA states that, “Neither the lack of credit history nor the borrower’s decision not to use credit may be used as a basis for rejecting the loan application. We also recognize that some prospective borrowers may not have an established credit history. For those borrowers, and for those who do not use traditional credit, the lender must develop a credit history from utility payment records, rental payments, automobile insurance payments, or other means of direct access from the credit provider. The lender must document that the providers of non-traditional credit do, in fact, exist and verify the credit information.” Alternatively, the lender can choose to purchase a non-traditional credit report and have the credit bureau verify these sources of credit.

If you rely on non-traditional credit, you need to be very careful with your bills–utility payments are not normally reported on a credit report, but yours will be. And your rent payment history will also be critical. In addition to your housing, other payments that might be considered are:

  • Utility bills (not included in rent payment) including electric, heating fuel, phone.
  • Insurance,cable and/or Internet, or cell phone payments.
  • Retail credit including department and furniture stores, or other installment loans.

You should also demonstrate a patter of saving with at least quarterly deposits to a savings account over 12 months. Payroll deductions are not eligible. You have to prove “voluntary” savings.

FHA guidelines are subject to change, but if you’ve had credit problems, keeping accurate records for documenting alternative credit can help you qualify for an FHA mortgage. Contact FHA lenders or a housing counselor for more information on current FHA loan requirements.

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