Credit Scores and Collections VA Home Loans

We don’t often have situations, frankly, where Veterans have credit problems – but it does happen.  Collections, especially those from hospitals, or Apartment Rental Agencies, can be especially difficult.  Because of that, we wanted to explore Credit Scores and Collections as it applies to VA Home Loans.

VA Home Loan Requirements For Credit Scores and Collections

VA Loans do not technically have a minimum credit score requirement.  All Lenders, however, have a minimum “risk” credit score that can vary from Lender to Lender.  We allow Manual Underwritten loans with credit scores in the high 500’s (over 580).  This means that even if we don’t get an automatic “computer system” approval, we can still approve the loan if it has good, logical off setting factors for approval.  Most of our competitors have a minimum credit score cap for VA Home Loans of 620.

Guidelines for loans with minimum credit scores under 640 are underwritten manually, and the guidelines required for collection accounts for those folks are even more stringent.  Underwriters will have to determine if the account resulted from a “borrower’s disregard for financial obligations, inability to manage debt, or extenuating circumstances.” 

The maximum debt to income ratio for Manual Underwritten Loans with credit scores that are under 600 is 45%.  For other VA Loans (by comparison) we are going to 50%.  In addition to the lower debt requirements, for those with credit scores under 600, we also require Reserves that equal 4 months or more.  This means that if your total house payment was $1000, we would need for you to have $4000 left over after closing.

Question: When a collection or another derogatory item is deleted from the credit report how much will the score increase? The answer, go figure, is that it depends. The question that should be asked is what are the factors that it depends on?

Answer: A derogatory account can weigh as little as 0 points on your credit score! But don’t get too excited because you actually don’t want your derogatory items weighing nothing. On the other side of the scale you could lose up to 175 points with one negative remark and this is much better news…don’t worry I’m not insane, let me explain.

Your positive credit represents your potential credit score ceiling, and your negative credit reduces that ceiling to wherever the scores are sitting. The more points you lose on a negative remark the better your positive credit was to begin with. For example, if you have 10 collections and nothing in the positive account section then you have a 0 or N/A score, therefore each collection weighs 0 points.

It’s not until you build up your positive accounts that these collections carry any weight qualifying for a VA Home Loan. Other major factors regarding weight of a derogatory remark is the quantity of negatives you have, the more negative marks on the credit report the less each one weighs (diminishing returns), and also your Date of Last Activity (DLA) is a major player. The more recent the DLA the more damaging the account. The balances of a collection account are not a factor!

How much does your credit score really cost you?

Rates fluctuate. Below you will find example rates pulled off the MYFICO website. Regardless of what rates are, these general rules COULD apply. I always tell folks that your credit score is like a snowflake, no two are exactly alike!   Because of that, these are just general rules of thumb – your score could make your rate higher or lower… just remember that lower scores create more risk for the bank you are making payments to, and higher scores make you appear to be a lower risk.

We work with folks in both ends of the spectrum!

For the most part, when you’re in the low 600 credit score range, you lower your interest rate by a half point.  Adversely, you can make a gain for every 20 point increase to your credit score ($75 a month or $27,000 over the life of your loan based upon a $250,000 loan).

Once you’re above a 660, it’s about a quarter point per 20 score points ($37 a month) up to a 700.

If you have a $250,000 mortgage loan on a 30 year fixed loan, we can show you an example of how this works.  THIS IS JUST AN EXAMPLE.  Please note that these are not rates that are currently available, it’s only being shown as example (snapshot) of what rates can vary based upon your credit scores.  We want you to think about how your scores could impact your mortgage interest rate… even your insurance premiums get higher with lower credit scores!

Check this fun math out, the difference between a 639 and a 700 (which really isn’t much) over the life of this loan example is about $78,000 in interest. Then, add in all your auto loans, credit cards and bank loans, who really blast you with higher interest rates over that same 30 years, and this could easily equate to $100,000 or more.

Now you are looking at an additional $178,000 in interest over 30 years.

Now look at this again… in this example, you have a staggering $178,000 less to invest over 30 years… a massive opportunity lost for Veterans (something nightmares are made of). Conservatively, you could earn $325,000 with that money over that time frame. Add that to the amount you paid in additional interest in the first place and slightly lower credit scores over just 30 years could cost you HALF OF A MILLION DOLLARS or even MORE.

If you earn more than the average wage of $60,000 a year, after tax, it would take you 10 years of work to make up the difference…  Makes a Veteran think about those credit scores, doesn’t it?

Let’s take a look out how accounts can be classified on a credit report. They either show as an “R” for “revolving”, “I” for “installment” and “O” for “other”. A collection is neither a revolving account nor an installment leaving the only choice left as “Other.”

Balances are irrelevant on an “Other” account, so whether you owe $0 or $10,000 on a collection, your score will not change. 

The “weight” of the account is based on the DLA (Date of Last Activity), the newer the date the more it weighs, which is why paying off your collections will usually lower your scores as it will renew the day of last activity!.

VA Home Loan Underwriters now require lenders to include monthly payments in calculating eligibility, for Home Buyers in NC with collections totaling over $2,000, .  While some collections report a minimum payment on credit reports, most do not, and lenders will assume a payment of 5% of the outstanding balance. 

If your total Collection accounts total LESS than $2000, we are just basically going to ignore them… Because of that, we do NOT want you to pay off collection accounts before you talk to us!

For VA Home Loans, it’s important to remember that all Judgments must be paid off – this is primarily because a Judgement can attach to the title of the home.

Because all mortgage loans that are backed by the Government have the “best” interest rates right now, this is a GREAT program to use!  In addition, there’s no monthly PMI!  Even if you are purchasing a “Bigger” home, and you are going to make a down-payment, you might still want to use your VA Loan benefits! During the month of November, we are offering Veterans free Appraisals and below market Mortgage Interest Rates.  If you are considering a purchase, and want to know more about VA Home Loan Credit Scores and Collections, please call Steve and Eleanor Thorne, Government Mortgage Loan Experts, 919-649-5058