Can I get an FHA 203(h) rehab loan with bad credit? That question is a serious one in the wake of natural disasters such as Hurricane Harvey and Hurricane Irma. Borrowers who are in the process of fixing bad credit, catching up on their payments, or trying to improve their overall credit situation have enough to manage without the added complication of trying to repair or salvage a home damaged in a natural disaster.
What are the FHA loan rules for credit qualifications when applying for FHA 203(h) rehab loans in federally-declared disaster areas?
FHA Loan Credit Requirements For 203(h) Rehab Mortgages
The FHA loan handbook, HUD 4000.1, instructs lenders processing 203(h) rehab loans and refinance loans to be as flexible as possible with credit requirements. That flexibility is governed by a few guidelines in HUD 4000.1:
“The Mortgagee should be as flexible as prudent decision making permits. The Mortgagee is required to make every effort to obtain traditional documentation regarding employment, assets, and credit, and must document their attempts. Where traditional documentation is unavailable, the Mortgagee may use alternative documentation…”
The basic guidance for these disaster relief loans includes how a lender should approach applicants who have derogatory credit information on their credit reports. “For Borrowers with derogatory credit, the Mortgagee may consider the Borrower a satisfactory credit risk if the credit report indicates satisfactory credit prior to a disaster, and any derogatory credit subsequent to the date of the disaster is related to the effects of the disaster.”
Verifying Income For a 203(h) Rehab Loan
Job records and other pertinent information may not be available in the recovery time following a natural disaster. Lenders are instructed to anticipate problems verifying income-something that is key to getting FHA loan approval. HUD 4000.1 states:
“If prior employment cannot be verified because records were destroyed by the disaster, and the Borrower is in the same/similar field, then FHA will accept W-2s and tax returns from the Internal Revenue Service (IRS) to confirm prior employment and income.
The Mortgagee may also include short-term employment obtained following the disaster in the calculation of Effective Income.”
Debt-To-Income Ratio Issues
Some factors that would normally complicate the loan approval process are treated differently when it’s time to apply for a rehab loan to recover from a natural disaster in a federally-declared disaster area. The FHA 203(h) loan rules include this guidance to the lender with respect to a borower’s existing mortgage payment and how it may be viewed when calculating the debt-to-income ratio:
“When a Borrower is purchasing a new house, the Mortgagee may exclude the Mortgage Payment on the destroyed residence located in a (federal disaster area) from the Borrower’s liabilities. To exclude the Mortgage Payments from the liabilities, the Mortgagee must:
-obtain information that the Borrower is working with the servicing Mortgagee to appropriately address their mortgage obligation; and
-apply any property insurance proceeds to the Mortgage of the damaged house.”
Ask a loan officer how these rules may apply to your transaction and what steps will be needed in order to qualify for an FHA 203(h) rehab loan.