There is some good news for home buyers, especially first-timers according to Ken Harney of Inman News. With no fanfare or public announcements, two of the largest FHA-approved lenders – Wells Fargo and Quicken Loans – have backed off their controversial "overlay" requirements on FICO scores (lender overlays are qualification requirements that can be more stringent than FHA's own requirements).
Both these large lenders confirmed last week that they will now lend to applicants with 580 FICOs and 3.5 percent down payments. These revised standards conform in most respects to FHA's own minimums, and open the agency's financing to large numbers of buyers whose credit scores have sagged during the recession.
Along with most other major lenders, both companies previously had insisted on minimum FICOs of 620 for otherwise qualified borrowers seeking 3.5 percent down payment loans. If your score came in even slightly lower, they wouldn't even look at your application. An estimated one third of Americans now have FICO scores below 620, according to one consumer group's estimate.
The lending industry's rationale for imposing a higher bar than FHA's own: They need an extra cushion of protection against potential defaults by borrowers with subpar credit scores. Many of those defaults, they said, could prompt indemnification demands by the Federal Housing Administration -- essentially punitive repayments for insured loans that go belly up. Similarly, FHA lenders want to avoid the costs of servicing nonperforming defaulted mortgages.
Wells' newly revised policy actually dips the FICO score cutoff line well below 580 -- all the way down to deep subprime 500 -- but also sets strict underwriting hoops and snares to weed out unqualified applicants. For example, borrowers with scores in the range of 500-579 will need a 10 percent down payment from their personal resources. They will not be able to use gift money from relatives, friends or a charitable down payment assistance program to meet the 10 percent upfront equity test.
Home buyers with scores of 580-599 will need 5 percent down payments, and will be prohibited from supplementing their own cash with gifts. Borrowers with FICOs above 600 will qualify for 3.5 percent down payment FHA deals, but will be allowed to use gift money.
Contributions from home sellers to defray buyers' closing or loan origination costs will be limited to 3 percent. Debt-to-income ratios will be tight: 31 percent for monthly housing-related expenses, and 43 percent for total household debt service.
If the mortgage industry adopts the Wells and Quicken guidelines in some form, tens of thousands of consumers -- along with the real estate professionals assisting them -- could be beneficiaries in the weeks immediately ahead.
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