The FHA 1 Year Waiting Period After Short Sale, Bankruptcy or Foreclosure – Back to Work

Where was this three years ago?  Better late than never I suppose.  FHA is now insuring loans to homebuyers who have experienced an Economic Event (Short Sale, Bankruptcy, Deed in Lieu of Foreclosure or Foreclosure) in the past and can document that (1) their certain credit impairments were the result of a Loss of Employment or a significant loss of Household Income beyond the borrower’s control, (2) the homebuyer has demonstrated full Recovery from the event and, (3) the homebuyer has completed housing counseling.

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FYI, in the event of a short sale, this is for buyers who DID have late mortgage and/or installment debt in the 12 months preceding the closing of the short sale.

A Recovery is considered full if, “the borrower’s credit history is clear of late housing or installment debt payments, and major derogatory credit issues on revolving accounts; any open mortgage is current and shows twelve (12) months satisfactory payment history. Mortgages may have been brought current through loan modification, which may be “temporary” or “permanent” so long as all payments have been documented as being received in accordance with the modification agreement.”

After the test for the Recovery is met, one must meet the another new test to see if the Loss of Employment or Loss of Income was severe enough to justify the Economic Event (in FHA’s “mind” anyway).  The test put in place requires the documentation of a Borrower Household Income loss of twenty percent or more for a period of at least six months (sounds pretty arbitrary to me but hey, . . . that’s the new rule).

If your head aches from the jargon, see the definitions at the bottom of this post (just below the brief rant).

This may come as great new news but make no mistake, getting these transactions closed won’t be easy.  As if putting together a standard FHA loan package isn’t onerous enough, the additional required documentation required for these loans will make it a veritable Spanish Inquisition. Here’s the supplemental checklist for loans of this type:

Unique Documentation Checklist Needed for Underwriting:

  • Verify and document a reduction in the borrower’s Household Income of twenty (20) percent or more for a period of at least six (6) months that resulted from the Loss of Employment, Loss of Income, or a combination of both (this is done using a combination of tax returns, W2’s, Verification of Employment forms, documentation of business closures, documentation of receipt of unemployment income or similarly reliable documentation and if the Loss of Income was seasonal in nature, a full two years prior to the prior to the loss of income must be documented)
  • Evidence of on time payment history for housing, all remaining mortgages and installment debt for the last 12 months
  • Evidence that (a) the bankruptcy was discharged 12 or more months ago, (b) the date of closing on a short sale was 12 or more months ago and finally (c) that 12 months have lapsed since the date of title transfer to the foreclosing lender in the event of a foreclosure
  • HUD Counseling Agency certificate of participation in pre-purchase counseling (this, at a minimum, is one hour of one-on-one counseling from HUD-approved housing counseling agencies be completed a minimum of thirty (30) days but no more than six (6) months prior to submitting a loan application to a lender)
  • Evidence of required disclosure from Counseling Agency (description of any financial relationships between the counseling agency and the lender – or lack thereof, statement that the borrower is not obligated to pursue a loan with a lender and finally, a statement that completion of the counseling program and receipt of a letter of completion of counseling do not qualify the borrower for an FHA loan)
  • And just when your eyes were already crossing, if you had a previous short sale, additional documentation will apply to prove that the proceeds from the short sale served as payment in full

While I am happy that HUD has introduced this Back to Work exception using extenuating circumstances for short sales, bankruptcies, deeds in lieu and foreclosures, there are a couple of things about the way HUD treats short sales in particular that are eerily stupid.  Firstly, one must have a hardship to qualify for a short sale so why re-litigate the past to the extent outlined in bullet point one of the documentation list above?  It’s kind of arrogant to suggest that they’re going to render a better judgment than a previous creditor that already took a loss (and probably a big one).  In other words, the twenty percent rule is a bit thick-headed.  Secondly, why is HUD the only remaining government loan backer or insurer that still requires a 30 day late payment on a mortgage in order to qualify for a short sale rather than following the Imminent Danger of Default rule?  For as enlightened as they may seem on the buy side of a transaction, that stance might be the most unenlightened servicing policy I’ve seen.  Lastly, where was this 3 years ago?  As early as December of 2009, HUD allowed FHA loans immediately after a short sale under certain circumstances.  Why on earth did it take them another three years and eight months to get here?

This is progress though.  Maybe slow progress but progress nonetheless.

Definitions

  • An Economic Event is any occurrence beyond the borrower’s control that results in Loss of Employment, Loss of Income, or a combination of both, which causes a reduction in the borrower’s Household Income of twenty (20) percent or more for a period of at least six (6) months.
  • The Onset of an Economic Event is the month of Loss of Employment/Income.
  • Recovery from an Economic Event is the re-establishment of Satisfactory Credit for a minimum of twelve (12) months.
  • The term Borrower includes borrowers and co-borrower.
  • Borrower Household Income means the gross income of the borrower and all Household Members for purposes of assessing loss of income (not qualifying income on the new loan). The gross income of each Household Member must be computed in accordance with current FHA income requirements.
  • Household Member means an individual residing at the borrower’s primary residence at the time of the Economic Event and who was a co-borrower on the borrower’s previous mortgage.
  • Housing Counseling means counseling from a HUD-approved housing counseling agency
  • Brief Rant is an expression of Charles Dailey’s impatience regarding the banking industry’s slow changes and unenlightened thinking regarding the present creditworthiness of buyers who previously had a short sale

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Charles Dailey – Branch Manager, Loan Officer, Certified Military Housing Specialist – CA DOC, MN DOC & WI DFI

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Comments 3

  1. Andrew Terry

    Dear Mr. Dailey,

    I had a short sale in April 2013. I can’t really prove that I had an economic event. I was behind on payments for couple of years.
    I got married in late 2012. My wife has a perfect credit score, but her income is not high enough to obtain mortgage amount we are looking for. My income improved already (it’s in a rnage of 650, and my income is high enough).
    If I will be a co-signer we will have a very good combined income, and average credit score will be in a range of 700-710 (using minimum score for each of us). wWll it help us to get a mortgage, or I should not even try to think about buying a house at this point.

    Warmest Regards,

  2. renee

    Dear Mr. Dailey,
    In April 2012, I got married and my husband and I moved out of state because I got into graduate school. We both sold our houses short sale in Michigan. I officially sold it the end of October 2012 and my husband sold his December 2012. I stopped paying on mine in April (my realtor told me it would go faster) but my husband had to keep paying on his. We live in Decatur, Il (central Illinois) and would like to purchase a nice small house (asking 65,000) the banks around here said no. My husband is a registered nurse and makes good money. This house has been for sale over a year. Any suggestions?
    Thank you

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