As homeowners move through the short sale or foreclosure process, they may wonder if they will be able to own a property in the future. Although the rules differ for either option, homeownership is a possibility for most. By examining the requirements, homeowners can develop a plan as their financial difficulties recover. The following information is an in-depth guide detailing how to buy a home after a short sale or foreclosure.
For informational purposes only. Always consult with an attorney, tax, or financial advisor before proceeding with any real estate transaction.
Home Loans After a Short Sale
Though there are potential waiting periods and additional considerations, obtaining a home loan after a short sale is a possibility. The process differs depending on whether the borrower wants a conventional loan or a government-backed mortgage, such as those available through the Federal Housing Administration, or FHA.
Across all the available options, FHA loans have the shortest waiting period and the fewest restrictions. In prior years, buyers were required to wait three years after a short sale to buy a home with an FHA mortgage. However, law changes in 2013 reduced the waiting period to 12 months for homeowners who experienced financial hardship, with their income decreasing by at least 20 percent for six months or more in order to qualify. When applying, buyers will need to provide proof of their hardship and complete counseling with a HUD-approved counselor.
Additionally, buyers can apply for a conventional mortgage loan after a short sale from Freddie Mac or Fannie Mae. With either option, buyers must wait at least two years before applying plus abide by other restrictions. For example, Freddie Mac loans require buyers to only seek a primary residence in addition to requiring the property to have a 90% loan-to-value ratio in order to qualify for funding.
Fannie Mae uses the borrower’s circumstances of the short sale to determine the waiting period—commonly four years—unless the borrower can prove they faced extenuating circumstances, including:
- Divorce
- Serious illness or injury
- Job loss, including layoffs
Buyers will need to provide documentation of the hardship and its impact on their financial situation, plus a letter explaining the event to demonstrate that the best option was a short sale. If accepted, the waiting period will be decreased to two years.
What to Do After a Short Sale
Buyers can improve their chances of obtaining a home loan after a short sale by tending to their credit score. Short sales show up on a credit report labeled as, “pre-foreclosure in redemption status” and will remain on the report for up to seven years. In order to qualify for any type of loan, buyers must have a score above:
- 620 for Fannie Mae
- 620 for Freddie Mac
- 580 for FHA
Alternatively, borrowers must meet the credit history requirements if they do not have a usable score.
Even if the score does not dip below those minimums, it is beneficial for buyers to work on increasing their score before applying for another mortgage. Lenders use these scores to determine the terms, including interest rates, which can potentially save borrowers money in the long run.
To increase their credit scores, borrowers must follow these steps:
- Pay all bills on time
- Carry low credit balances
- Minimize credit check requests
- Keep credit accounts open and in good standing
Beyond these requirements, buyers should pay off as much debt as possible before applying for the loan to help improve the debt-to-income ratio and the buyer’s chances of qualifying for a new mortgage.
Potential Obstacles
To streamline the process of buying a home after a short sale, it is wise for buyers to be aware of potential obstacles and take steps to avoid them. For example, the short sale must be accurately reflected in the paperwork to avoid long waiting periods; if the short sale was entered as a foreclosure instead, the two-year wait will not be possible. Confirming this information in advance can help prevent delays or denials of the mortgage loan request.
Additionally, to best abide by the given waiting periods, borrowers need to know their exact short sale date as well as the date the property was transferred to the buyer. Borrowers should have their paperwork ready in order to begin the process of finding a home loan immediately after the waiting period is over, confirming their credit score, income, and other factors meet the lender’s requirements.
Home Loans After a Foreclosure
Although buying a home after a foreclosure is possible, borrowers likely face a long wait before they can apply for a new home loan. In general, the length of the waiting period depends on the cause of the foreclosure. Most borrowers must wait up to seven years to apply, though extenuating circumstances can reduce the time to just three years.
During the waiting period, borrowers can improve their chances of qualifying for a mortgage in a few ways: repairing their credit score by paying off debt and making monthly bill payments on time as well as improving their financial standing and saving money for a down payment. Completing these steps will allow the borrower to meet the lender’s mortgage requirements and to potentially negotiate for better loan terms.
Extenuating Circumstances Let Borrowers Buy Sooner
Borrowers who can prove unavoidable events led to their foreclosure may be granted a reduced waiting period. Events qualifying for this consideration include:
- Job loss due to layoffs
- Serious medical issues
- Death of the breadwinner
Borrowers will need to prove these events occurred and made it impossible to fulfill their mortgage payment obligations. Additionally, borrowers will need to write a letter detailing the situation and attach proof in the form of pay stubs, death certificates, and any other supporting documentation. The lender will review the circumstances to determine if the situation qualifies under their guidelines.
If the lender approves the request, then the seven-year wait will be reduced to three years or less, depending on the type of loan the borrower aims to acquire. When seeking FHA loans, for example, borrowers may only have to wait 12 months. Freddie Mac and Fannie Mae, on the other hand, have a three-year wait, but only if the borrower can put at least ten percent down on the purchase.
What to Do After a Foreclosure
If borrowers want to buy a home after a foreclosure, they will need to immediately prepare by reaching out to a HUD-approved counselor as soon as they know a foreclosure on their home is a possibility. These counselors start by helping borrowers find and complete alternatives to foreclosure if possible and can assist borrowers in securing a new home loan in the future.
Counselors can help their clients learn how to seek out lenders with the right terms and avoid predatory lenders as well. Additionally, these counselors can explore different loan options available, giving borrowers key insights to use as they move forward with their plans to buy a home.
Beyond working with a counselor, prospective home buyers can examine their finances to improve their money habits and save for a down payment. Additionally, they can explore options to increase their income and prepare themselves for any decline in earnings.
When a prospective home buyer focuses on improving their credit score, it allows them to qualify for a home loan and secure the best terms available. However, the credit score will need to be high enough to qualify for a low-interest rate and other beneficial terms. Higher credit scores provide more options, allowing buyers to shop around before choosing the right loan.
Future Homeownership Is Possible
By understanding the next steps after a short sale or foreclosure, borrowers can approach the process of acquiring a home loan with confidence. With future homeownership a possibility, borrowers will need to reach out to a HUD-approved counselor or real estate agent for support. These professionals will assist in understanding the lender’s requirements while guiding the borrower toward strategies to improve their financial situation. Once the borrower can qualify for a loan, these professionals will continue their support and begin the search for an ideal property in the borrower’s target area.
For informational purposes only. Always consult with an attorney, tax, or financial advisor before proceeding with any real estate transaction.
