When you hear the B word, the general consensus is uncreditworthy. Quite often, the public views bankruptcies as a 7 year sentence leaving a person ultimately uncreditworthy and unable to obtain new credit until the sentence is over. Well I’ve got some news for you! You can actually buy a home with a bankruptcy on your record and you don’t have to wait 7 years to do so!
In this article we are going to focus on the seasoning requirements that need to be met in order to approve an FHA loan for the purchase of a home. When we say ‘seasoning’ we are strictly talking about the time that has elapsed since the bankruptcy.
When qualifying for an FHA loan after a bankruptcy, there are a few guidelines that must be followed and they will vary depending on the type of bankruptcy; Chapter 7 or Chapter 13.
Chapter 7 Bankruptcy
If you’ve filed a chapter 7 bankruptcy and you’re looking to qualify for an FHA loan, you must be discharged first. All of the seasoning requirements for an FHA loan after a chapter 7 bankruptcy will be calculated from the discharge date.
The soonest you can apply for an FHA loan after a chapter 7 bankruptcy is 1 year (12 months, 365 days) after the case was discharged from court.
For example: If you were discharged 08/20/2023 you could apply for an FHA mortgage no earlier than 08/21/2024.
Although this shortened time period is available to you, it does come with an exception to the rules. This exception is the evidence of an extenuating circumstance surrounding the bankruptcy. And by this we don’t mean you had a bad year and you’re back on your feet. Often times FHA underwriting wants to assure that this extenuating circumstance surrounding your bankruptcy was truly a one time event that was brought upon by an uncontrollable external force in your life. Since underwriting logic can vary and these loans are reviewed on a case-by-case basis, it’s not appropriate to go into specific situations here. Just know that the reason better be good surrounding your extenuating circumstance.
Now let’s say you clear this guideline and you’ve got an approval. You’ll have other compensating factors that you’ll have to meet to pass the final underwriting. These can include:
- Residual Income – Income left over after your expenses each month. These are calculated through a special formula and the amount needed will vary depending on family size and region of the country
- Reserves – Liquid funds available in your bank account after you close your loan. You’ll generally need a few months of mortgage payments to make this work. The guidelines can change so we won’t give specific numbers here
- Payment Shock – Evidence that this new mortgage payment will not exceed your current rent or other housing expense by a certain threshold
- Additional income – Additional income in the household that is not currently being used to qualify on the mortgage application
For all other people trying to qualify with a chapter 7 bankruptcy, the seasoning requirement is 2 years after the date of discharge. If you wait for the 2 year mark, you won’t need to prove an extenuating circumstance and the need for compensating factors will be greatly reduced.
But no matter which route you take, you must demonstrate creditworthiness. If for some reason you don’t, you may face more scrutiny in each situation than you’d like to deal with. So keep your credit clean after your discharge!
Chapter 13 Bankruptcy
Now a chapter 13 bankruptcy will have different requirements to fulfill in order to obtain FHA financing. Because chapter 13 bankruptcies usually don’t discharge until all payments have been made, the discharge seasoning requirements are different.
Typically the minimum wait time for FHA financing with a chapter 13 bankruptcy is 12 months as well. However you need to demonstrate 12 on-time payments with your court ordered payment arrangement as well as good credit habits and history after the chapter 13 started. In addition to that, you’ll need written permission from the court in order to qualify for FHA financing.
The same compensating factors will likely apply as well. However, the further along you are in your bankruptcy the less likely they are to come up.
- Residual Income – Income left over after your expenses each month. These are calculated through a special formula and the amount needed will vary depending on family size and region of the country
- Reserves – Liquid funds available in your bank account after you close your loan. You’ll generally need a few months of mortgage payments to make this work. The guidelines can change so we won’t give specific numbers here
- Payment Shock – Evidence that this new mortgage payment will not exceed your current rent or other housing expense by a certain threshold
- Additional income – Additional income in the household that is not currently being used to qualify on the mortgage application
Once you’ve discharged your chapter 13 bankruptcy and you’ve demonstrated responsible credit habits, none of the above may apply. Since chapter 13 bankruptcies don’t discharge until after you’ve complete the payment arrangement, many buyers have time to re-establish good credit and remove the need for the compensating factors and limitations.
In conclusion, this is one of the best types of loans out there for someone trying to get back on their feet from hard times. Homeownership and equity appreciation is a phenomenal way to build wealth for individuals and families in America. I’ve seen people come from the depths of nasty bankruptcies and into homeownership again, building a generational asset for their family. Don’t hesitate to consider FHA with or without a bankruptcy on your record. These are wonderful loans for first time buyers and existing homeowners alike!