VA Loans With Collection and Charged-Off Accounts

The Ultimate Handbook on VA Loans with Collection and Charged-Off Accounts

VA loans are a commendable benefit offered to veterans, active service members, and surviving spouses by granting unfettered access to homeownership due to the absence of down payments, private mortgage insurance, and lower interest rates compared to conventional loans. Dale Elenteny, a senior mortgage loan originator with GCA Forums Mortgage Group, explains about VA loans with collection and charged-off accounts as follows:

Concerned borrowers with collection accounts or charged-off accounts owing on their credit reports might be questioning their eligibility. This detailed blog explains the intricacies of VA loans for borrowers with collections and charged-off accounts, detailing eligibility criteria, the loan accounts’ impact on approval, the application process, and ways to enhance approval odds.

Borrowers do not have to pay outstanding collection and charged-off accounts to qualify for VA loans with these accounts. VA loans do not have a minimum credit score requirement or maximum debt-to-income ratio cap, and they do not have a maximum loan limit cap as long as the borrower has sufficient residual income. In the following paragraphs, we will cover VA loans with collection and charged-off accounts.

VA Loans With Collection and Charged-Off Accounts Explained

Before we explore VA loans, it’s worthwhile to understand what collection and charged-off accounts are and the implications they carry to your credit. Collection Accounts arise when the debt persists beyond the due date and the creditor hires a collection agency to recover the amount. Situational examples include owing money for medical treatment, outstanding credit cards, or utility payments. Collection accounts are marked on your credit report, and in addition to losing your credit score, you lose something worse, the faith of the lenders who view you as a high-risk borrower.

How Can Borrowers Get Approved for VA Loans with Collection and Charged-Off Accounts

What does it mean for something to be “Charged Off”?: Charge-off occurs when a creditor considers a certain account inactive and uncollectible after 180 days. There is still no collection attempt, but the balance is still there and has not been removed since the account has no longer been worked on. Creditors can still pursue collection accounts, affecting an individual’s credit score further, even after making a charge-off. Charged-off accounts can still be resold and purchased by collection companies, putting a person’s credit at risk once again.

Both charged-off and collection accounts are considered derogatory marks against an individual’s credit history and can remain on their report for 7 years. When applying for the VA loan, collection and charged-off accounts don’t automatically disqualify an applicant; they flag or give extra consideration to these accounts.

Overview of VA Loans with Collection and Charged-Off Accounts

Loans offered by the US Department of Veterans Affairs to qualifying candidates, such as active duty service members and some spouses, are classified as VA loans. These veterans, active duty service members, and spouses of the deceased also have the privilege of purchasing a loan at easy and affordable rates. A loan taken under the VA loans program requires no down payment, so users must pay the full value of the house they are purchasing. VA loans have no insurance coverage, unlike other conventional loans.

The charge-off does not impact eligibility, but it does put major restrictions on an individual when applying for the loan.

VA Funding Fee:

• VA Loans have a one-time fee between 0.5% and 3.3%, which can also be added to the loan amount.
• While VA loans tend to be more forgiving than conventional loans, charge-off accounts may make the approval process more difficult.
• Knowing how lenders assess these accounts is very important.

How Collection and Charged-Off Accounts Affect VA Loan Approval

VA, alongside its lenders, focuses on the borrowers’ financial health rather than single credit elements. Here’s how collection and charged-off accounts impact eligibility for VA loans:

Mortgage Guidelines on VA Loans with Collection and Charged-Off Accounts

The VA has set policies for the derogatory credit items that can negatively impact one’s credit score:

• Collection Accounts: Individual Accounts Under $2,000:
• Lenders may not require repayment of small collection accounts if a borrower or customer has a positive credit profile.
• They managed to opt out of some restrictions where other lenders did not.
• Aggregate Collections Over $2,000: Lenders expect all collection accounts to be paid off if the total balance exceeds $2,000.
• Medical Collections: The VA tends to be more forgiving regarding medical collections, often choosing not to require repayment if the borrower’s credit is still strong.
• Charged-Off Accounts: From a credit reporting perspective, charged-off accounts are like collections.
• If left unpaid, they may have to be settled, especially if the amount owed is large or if an active collection account exists.
• Payment or settlement of charged-off accounts is more favorable, although the derogatory mark still exists in the credit report.
• Manual Underwriting: When your credit score is impacted due to collection or charged-off accounts, lenders may use manual underwriting, which is more forgiving and scrutinizes the history.
• Employment history, overall and net earnings, and financial obligations are reviewed closely.

Debt-to-Income (DTI) Ratio

VA loans do not have a maximum debt-to-income ratio cap. The Veterans Affairs Department (VA) prefers a DTI of 41% derived from monthly debt servicing over gross pay. This is more likely as the payments increase, or if no payments are made. Lenders’ attempts to monitor potential risks manifest in charged-off accounts.

Residual Income

The VA department places importance on the amount left after major costs, such as payment of mortgages and other basic living expenses. Payment reduces the cost of the loan. Regional and family size determine the amounts set as residual income.

Effects on Credit Rating

Charged-off accounts and collections impact your credit score, which most VA lenders check. Although the VA does not impose minimum requirements, lenders usually set the mark at 620. Suppose your score is sub-620 because of negative accounts. In that case, you may need to seek out a more forgiving lender, a lender who uses lower benchmarks, or a lender who utilizes manual underwriting.

Lender Judgment

Each VA-approved lender adopts their own “overlays,” or additional requirements, that go beyond the VA guidelines. Some will be more lenient, while others will be stricter, enforcing that all collection or charged-off accounts be paid off. The more flexible lenders tend to have borrowers with strong compensating factors such as high income, low DTI, or significant savings.

Qualifying for VA Loans with Collection and Charged-Off Accounts

Addressing credit-related matters and standard VA eligibility criteria qualify applicants for a VA loan.

 VA Loan Eligibility

• Active Duty Service Members: Must serve for a minimum of 90 days consecutively.
• Veterans: Must fulfill minimum service requirements (e.g., 181 days during peacetime, 90 days in wartime).
• National Guard and Reserves: Must serve 6 years, or 90 days of active duty in wartime.
• Surviving Spouses: Unmarried spouses of service members who died in the line of duty or from service-related disabilities.
• Other Groups: Selected officers of the Commissioned Corps of certain branches of the Public Health Service or the National Oceanic and Atmospheric Administration.
• A Certificate of Eligibility (COE) is also needed, which can be acquired from a lender or the VA’s eBenefits portal.

Financial Requirements

• Stable Income: Reliable income (for example, W-2, self-employment, or retirement) that covers loan payments and living expenses and is verifiable to a minimum level.
• Credit Profile: A credit profile of at least 620 is preferred; however, lower scores may be accepted with manual underwriting.
• DTI Ratio: A DTI ratio of 41% or lower is better, though higher ratios may be accepted with compensating factors such as high residual income.
• Residual Income: Must meet predefined tank VA regional and family size requirements.

Property Requirements

• Properties to be used as homes must comply with the VA’s Minimum Property Requirements (MPRs), ensuring they are safe, sanitary, and structurally sound.
• Additionally, the property should be the primary residence.
• Strategies to Improve Chances of Gaining Approval
• For every collection or charged-off account, these steps must be followed to improve eligibility for a VA loan:

Review Your Credit Report:

• Utilize annualcreditreport.com to obtain free credit reports from Equifax, Experian, and TransUnion.
• Look for inaccuracies concerning collection or charged-off accounts, such as incorrect balances and disputes that should have aged off.
• Dispute inaccuracies with the credit bureaus—e.g., incorrect balances, age-influenced disputes that should have aged off, etc.

Settle Collection Accounts:

• If settling is possible, pay off small collection accounts ($2,000 or fewer).
• Lenders may overlook these accounts after payment is made.
• Could you negotiate a settlement or payment plan with the collection agency for larger collections?
• I would like you to know that written confirmation of agreements should be obtained.
• Medical collections should be paid first.
• These collections are easier to settle and have less impact under VA guidelines.

Address Charged-Off Accounts:

• Could you negotiate a settlement or payment plan with the original creditor or collection agency?
• Even though they will remain on the credit report, paying off charged-off accounts can improve lenders’ perceptions.

Improving Your Credit Score:

• Lower the debt amount to improve the DTI ratio and boost the score.
• Existing debts should be paid off incrementally.
• Payments should be made on time, especially for the most recent ones, since payment history determines a major part of the score.
• Before applying for credit, avoid opening new accounts and making expensive purchases.

Work With A More Understanding Lender:

• Scout for VA lenders who specialize in manual underwriting for borrowers dealing with derogatory credit.
• Manual underwriting is often used for lower credit scores.
• Inquire about charged-off and collection accounts and their policies during the first encounter.

Document Compensating Factors:

• Compensating factors should include stable employment for two or more years, high residual income, and large amounts of savings that are not easily accessible.
• Provide a written derogatory account explanation, such as a job that was lost leading to a medical emergency and then a period of unemployment, to show that the reasons were temporary and the accounts have been resolved.

Co-Borrower Consideration:

• Stronger credit from a spouse or another eligible veteran could improve chances of getting approved, but their income and debts will be part of the consideration.

VA Loans with Collection and Charged-Off Accounts Application Procedure

• Applications for VA loans with charged-off or collection accounts follow the usual VA loan steps.
• VA loans are serviced in a specific way, paying extra attention to credit issues:

VA Loans with Collection and Charged-Off Accounts: Obtaining Your COE:

• Order your Certificate of Eligibility from a lender or through the VA’s eBenefits portal, where you will upload service documents like a DD-214 for veterans.

VA Loans with Collection and Charged-Off Accounts: Picking a Lender: VA Approved

• You may use any VA-approved lender if they are familiar with VA loans and have experience dealing with borrowers with derogatory credit.
• Could you verify their rates and policies regarding collection and fees?

VA Loans with Collection and Charged-Off Accounts: Document Collection / Submission:

• Documents collected include income documents like pay stubs, tax returns, bank statements, and IDs.
• Credit documents submitted include proof of payment and settlement agreements for collection accounts.

Collection Requirement:

• Having collection accounts does not affect credit, income, DTI, or debt servicing for pre-approval purposes.

House Hunting: VA Loans with Collection and Charged-Off Accounts

• Could you hire a real estate agent to guide you to properties that meet VA MPRs and within your financial means?
• The VA appraisal will be overseen by the lender who orders it, as it will attempt to confirm the house’s value and compliance with MPRs.
• The underwriter assesses your credit, income, and documentation. Manual underwriting may be considered if there are issues with collection or charged-off accounts.

VA Loans with Collection and Charged-Off Accounts: Finalize Loan

• Execute closing documents, pay closing costs (2-5% of the loan amount), pay the VA funding fee (or finance it into the loan), and obtain the title to your property.
• Most Popular Questions Regarding VA Loans with Collection and Charged-Off Accounts
• Is it mandatory to resolve all collection accounts before obtaining a VA loan?
• Need to pay off all collections to obtain a VA loan?
• Not with a valid credit score. Medical collections and small collections under $2000 don’t require payments.
• However, bigger collections depend on the lender’s criteria.

Can a charged-off account restrict one from obtaining a VA loan?

• You’re not disqualified, but unpaid accounts should be resolved before applying.
• Settled or paid accounts are preferred.
• What is the duration of collection and charged-off accounts on a credit report?
• Collection and charged-off accounts are time-barred for seven years from the delinquency date. Paying improves the application, but does not remove the information.

Will A Veteran Loan Work With Low Credit Scores And Collections?

• Some lenders accept credit scores lower than 620, especially with manual underwriting or strong compensating factors like high income or low DTI.

VA Loans with Collection and Charged-Off Accounts: Are Medical Collections Treated Differently?

• Yes, the ES is more for medical collections—often, they do not need to be paid back if the borrower’s finances are good overall.

Veterans and service members seeking financial flexibility can use loan accounts with collections and charged-off accounts alongside VA loans as long as they improve their credit. However, the VA’s less stringent policies, account resolution, credit enhancement strategies, and seasoned lenders can lead to approval on these derogatory marks that hinder the process. After navigating the detrimental impacts of collections and charge-offs on their application, veterans can take advantage of these loans and ensure homeownership.

If you are charged with collections and forbearance and ready to seek a VA loan, contact a VA-given lender to inquire about consultations and pre-approval processes for today.