Mortgages with Collections and Charge-Offs
Mortgage Requirements: Liens and Title Impact
The most critical factor concerning derogatory accounts is whether they constitute a lien or judgment that affects the property’s title.
Mandatory Payoff: All delinquent credit, including judgments, tax liens, mechanics’ liens, and charge-off accounts that will impact title or affect the lender’s lien position, must be paid off prior to or at closing. The title insurance policy must ensure the lender’s lien position without exception.
Non-Title Accounts: In contrast, many non-medical collection accounts and charged-off accounts that do not impact title may potentially remain open, depending on the specific Non-QM program rules and the size of the outstanding balances. Non-QM Loans offer greatest flexibility in relation to collections and charge-offs.
Non-QM Program Guidelines for Collections and Charge-Offs
Specific eligibility regarding open collections and charge-offs varies significantly based on the lender’s program and risk tier. These guidelines focus on non-mortgage accounts (delinquent consumer credit).
A. Exceptions for Medical and Minor Accounts
Most programs offer broad exemptions for medical debt and for very small cumulative balances:
- Medical Collections: All medical collections may remain open regardless of the amount in some Horizon programs. Other programs also allow medical collections to remain open, often up to specified limits:
- Edge Series: Medical collections less than $50,000 are generally not required to be paid.
- Sharp Series: Medical collections less than $15,000 are not required to be paid.
- Horizon DSCR No Ratio: Medical collections less than $15,000 are not required to be paid.
- River Series (Bank Statement): Medical collections are allowed to remain outstanding if the balance is less than $10,000 in aggregate.
- Connect Program: Medical collections may remain open regardless of amount.
- Small Balances (Connect Program): Open adverse credit must generally be paid off, but exceptions exist if an individual account balance is under $250 and the aggregate of accounts outstanding is under $1,000 (provided they do not affect title).
B. Thresholds for Payment Requirement
If the collections or charge-offs are non-medical and exceed the minor balance thresholds, they typically must be paid off prior to or at closing, unless alternative mitigation methods are applied.
Program/Series | Threshold Requiring Payoff (Non-Title, Non-Medical) | Seasoning for Evaluation |
Sharp Series | Exceeding $5,000 (individually or aggregate) | Within 3 years |
Horizon DSCR No Ratio | Exceeding $5,000 (individually or aggregate) | Within 3 years |
Edge Series | Exceeding $10,000 (individually or aggregate) | Open < 2 years |
Horizon Standard/Expanded | Cumulative balance exceeds $5,000 | Open < 24 months |
In the Nations Direct Mortgage (NDM) guidelines, open accounts may remain open if: collections and charge-offs are less than 24 months old with a maximum cumulative balance of 2,500??,ORiftheyare??olderthan24months??withamaximumof??2,500 per occurrence.
Mitigating Open Accounts through DTI or Reserves
If non-exempt collections or charge-offs must remain open, borrowers may be able to qualify by demonstrating sufficient capacity or assets:
- DTI Inclusion: The borrower may include a projected payment for the outstanding accounts in their Debt-to-Income (DTI) ratio calculation.
- If the actual monthly payment is unknown, 5% of the outstanding balance may be used as the payment for the DTI calculation.
- The total DTI must still comply with program limits (e.g., DTI ?50% in some Non-QM programs).
- Reserves Coverage: The accounts may remain open if the borrower has sufficient reserves to cover the remaining collection and charge-off balances, in addition to meeting the standard published reserve requirements for the loan product. A combination of covering a portion of the balance with DTI and the remainder with reserves is also permitted.
- DSCR Exemption (Investor Loans): For Non-QM Investor Cash Flow (DSCR) transactions, charge-offs and collections can often be ignored unless they directly impact the property’s title. This is because DSCR loans qualify based on the property’s cash flow, not the borrower’s personal DTI.
Treatment of Judgments and Tax Liens
While distinct from collections/charge-offs, judgments and tax liens share similar payoff requirements:
- Judgments and Liens Affecting Title: Must be paid off prior to or at closing. Cash-out proceeds may sometimes be utilized for this purpose in the Connect program, but not in the River Series Bank Statement program.
- Tax Repayment Plans: Outstanding tax liens may be permitted to remain open under specific conditions, which generally include:
- Being on an established repayment agreement.
- Documenting a history of timely payments (e.g., the most recent three to six months, depending on the program).
- Including the maximum required payment in the DTI calculation.
- The lien must be subordinated if recorded against the property (for non-tax liens). Tax liens and IRS repayment plans cannot be subordinated in the Horizon Refinance program.
Credit Report Validity and Disputes
The presence of derogatory items often leads to disputes, which can halt the mortgage process:
- Disputed Accounts: If a credit report contains an open derogatory dispute, the report may be considered invalid.
- Resolution Required: All derogatory disputes must be resolved and an updated credit report received before the loan can close.
- Exceptions: An account with a zero balance and no derogatory information can be disregarded. If an account in dispute is a collection and the balance is less than or equal to $250, the dispute may remain open in some scenarios. However, if an account has a positive balance and derogatory information, the dispute must be removed and a new credit report may be required.
- Written Explanation: Generally, a written explanation (LOE) is not required for medical collections, revolving late payments, or collections. However, if the borrower is applying for a DSCR No Ratio loan, derogatory revolving and installment accounts that are 60 days delinquent within four years of closing require a full explanation.
FAQ's
While all derogatory disputes must generally be resolved, an exception may exist where an account in dispute is a collection and the balance is less than or equal to $250, allowing the dispute to remain open in some circumstances.
No, cash-out proceeds from the subject DSCR transaction may not be used to satisfy judgments, tax liens, charge-offs, or past-due accounts.
An approved IRS tax payment plan may remain open if it is current, does not carry a lien on the property, and the borrower provides evidence of timely payments for the most recent two months.
Non-title collection accounts may remain open if the individual account balance is under $250 and the aggregate of accounts outstanding is under $1,000.
No, for DSCR transactions, charge-offs and collections can be ignored unless they directly impact title.
If the actual monthly payment for the open account is not known, 5% of the outstanding balance may be used as the payment and included in the DTI ratio calculation.
No, all medical collections may remain open regardless of the amount under the Horizon program. Other programs specify limits, such as medical collections less than $50,000 generally not requiring payment under Edge guidelines.
Non-title charge-offs and collections within three years and exceeding $5,000 (individually or aggregate) must be paid.
Collections and charge-offs less than 24 months old with a maximum cumulative balance of $5,000 may generally remain open, though certain programs (like DSCR No Ratio) have stricter rules.
Yes, all judgments or liens affecting title, including delinquent taxes, charge-off accounts, tax liens, and mechanics’ liens, must be paid off prior to or at closing.
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