Many people trying to buy a home after a short sale find it difficult to navigate through loan programs that they may be eligible for and various waiting periods that may be applicable. If late payments occur, most people are told that the waiting period for buying a home after a short sale is 3 years because that’s what FHA requires if late payments occur. Then they learn that Fannie Mae will back a loan for someone after a short sale after 2 years with a 10 percent down payment if there are “extenuating circumstances.” But what are extenuating circumstances?
Fannie Mae describes “extenuating circumstances” as follows:
Extenuating circumstances are nonrecurring events that are beyond the borrower’s control that result in a sudden, significant, and prolonged reduction in income or a catastrophic increase in financial obligations.
If a borrower claims that derogatory information is the result of extenuating circumstances, a lender must substantiate the borrower’s claim. Examples of documentation that can be used to support extenuating circumstances include documents that confirm the event (such as a copy of a divorce decree, medical bills, notice of job layoff, job severance papers, etc.) and documents that illustrate factors that contributed to the borrower’s inability to resolve the problems that resulted from the event such as a copy of insurance papers or claim settlements, listing agreements, lease agreements, tax returns (e.g. covering the periods prior to, during, and after a loss of employment).
A lender must obtain a letter from the borrower explaining the relevance of the documentation. The letter must support the claims of extenuating circumstances; confirm the nature of the event that led to the bankruptcy or “foreclosure-related action” (also known as a short sale in Fannie Mae terminology), and illustrate the borrower had no reasonable options other than to default on his or her financial obligations.
Freddie Mac considers an extenuating circumstance to be a nonrecurring or isolated circumstance, or set of circumstances, that was beyond the borrower’s control and that significantly reduced income and/or increased expenses and rendered the borrower unable to repay obligations as agreed, resulting in significant adverse or derogatory credit information.
FHA describes extenuating circumstances as circumstances that were beyond the control of the borrower, such as a serious illness or death of a wage earner, and the borrower has re-established good credit since the major credit event. For FHA, Divorce is not considered an extenuating circumstance. An exception may, however, be granted where a borrower’s loan was current at the time of his/her divorce, the ex-spouse received the property, and the loan was later foreclosed. Unfortunately, FHA does not consider the inability to sell the property due to a job transfer or relocation to another area does not qualify as an extenuating circumstance. This did however amend their guidelines to incorporate a new Loss of Employment and significant loss of Household Income provision that can allow people with major economic events (short sale, deed in lieu, foreclosure and bankruptcy) to buy after 1 year. There’s more on this “Back to Work” FHA program outlined in our companion article here.
So in short, a prospective homeowner can buy after short sale with FHA right away (and VA) if there are no late payments and other nuanced conditions are met, after one year using the FHA Back to Work program and after 3 years if there are late payments on the mortgage and/or installment debt and qualifications aren’t met for the previous two options. For Fannie Mae backed loans, with 10 percent down a prospective homebuyer can purchase after 2 years if they can document their extenuating circumstances.
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