Credit challenged borrowers often fall prey to predatory lenders as a last resort to buy their own homes. Careful planning with a competent FHA lender can keep those buyers out of the financial lion’s den. A carefully written Letter of Explanation can go a long way toward getting a loan approved.

Obtain a copy of the credit report from the lender and write an explanation for each derogatory entry as well as for recent inquiries. Be sure that he includes the following components for each entry and issue the following advice:
 
1.    Cite the entry or inquiry first with the creditor name, the amount of monies involved, and the date(s).
 
2.    Explain the history of the problem. Don’t be timid about sharing the details of personal challenges. Be honest about the circumstances that led to your financial problems. If circumstances were beyond your control, give a brief history of the events leading to you inability to meet your financial obligations. Life impacting personal events and the emotions attached to them are important factors that an underwriter considers.

On the other hand, if you were remiss in your obligations, and the problems were due to your own negligence, be candid and admit your mistakes. Follow this admission with a statement that you understand the importance of establishing a good credit profile and emphasize that you now place a priority on paying your bills on time. Remember, this letter is written for HUMAN eyes, not for a computer.
 
3.    Describe the steps you took to correct the problem. “I paid the amount owed,” or “I entered into a payment arrangement” are good starters, especially if you can provide documentation for your claims.
 
4.    Close the letter with a paragraph that pulls it all together and describes a pattern of improved financial health habits. Project creditworthy loan performance and give the underwriter an “A” right here for approving your loan application!
 
5.    Supply documentation to buttress your narrative: 
 
    • Divorce based credit issues can be documented with either divorce decree or separation agreement, court ordered documents for child support, tax documents for most recent year filing jointly, paperwork pertaining to arrearages in child support, and printout from domestic relations court showing either satisfactory child payment history or arrearages.
    • Job Loss claims can be supported with layoff notice, Unemployment Office records, and other proofs of dismissal.
    • Injury Resulting in Inability to Work can be shown with proof of Workman’s Compensation and letters from doctor or employer about the injury.
    • Spousal Abuse can be documented with police reports, medical records, and Protection from Abuse orders from the court.
    • Business Failure is best illustrated with tax returns for the most recent year or proof that the borrower is no longer self employed (i.e. current pay stub from employer).
SAMPLE LETTER OF EXPLANATION
FOR CREDIT CHALLENGED BUYERS
 
Re: FHA Mortgage Application
 
Dear Sir or Madam:

This letter provides explanations for each item listed in my credit report obtained in connection with my mortgage application.

1. Unpaid Student Loan Collection Balance Due $1,224. Pennsylvania State University. Dated 11/02 and 04/04

These are duplicate items on the credit report. In May 2002, I graduated from Penn State. At this time I moved in with a friend at 123 Hamilton Ave. in State College because I was not able to find a job. I found a job four months later and moved into an apartment at 334 College Avenue.

My loan deferment period expired at that time and I commenced payments on a regular basis. I was under the impression that the loan that I received for prior education at Lock Haven University was included in these payments because I never received a bill from Lock Haven University.

In 2005 I received a note from a former roommate at Lock Haven that contained unopened mail that she was holding for me. There were bills from Lock Haven University totaling $3,200 I immediately sent them $1,000 and additional monies in the following months. I will pay this loan in full before closing.

2. Late Payments Dated 10/02, 11/02, and 12/02 and 04//03 with Current Student Loan Balance $14,224

When I moved in September 2002 I inadvertently missed a payment on my student loan. Each of the payments I made in the following months was logged as 30 days late. I caught up as soon as it was brought to my attention.
 
In March 2003 my brother suffered an injury at work and was unable to make his rent and some other obligations. I tried to help him meet some of those expenses, and missed one myself as a result. I brought my account up to date shortly thereafter and have paid this bill on time each month ever since.
 
3. Late Payments Dated 01/02, 03/03, 04/03, and 05/03 With Credit Card Bank. Current Balance Zero

In January 2002 there was a charge that appeared on my credit card bill that I did not authorize. I did not pay the bill because I did not order the product. That amount was removed from mi bill the following month. From a period of March through May 2003 I made large payments to bring my student loan up to date (see above) and I was short of funds as a result. I should have balanced my payments so that nothing else suffered. I know that paying my bills is important for my future and for the future of my family.

4. Late Payments Dated 02/00 – 05/00 With Universal Bank Group. Current Balance Zero

I believe that this is a mistake on the credit report. I have never had an account with this bank I am disputing the entry with the credit reporting agency.

5. Late Payments With US LEC

I always contested this bill. US LEC was charging me for services associated with my web services that I did not use. These charges were attached to legitimate charges and when I became aware of the fact that I had already paid for these services for two years I tried to persuade them that it was unfair to charge me for services I did not use. They did not agree and in the end I paid the $325 bill to restore my credit and then I cancelled my account with them.
 
6. Why Five Banks Checked My Credit in the Last Three Months

I spoke with several lenders in the last three months to compare rates and terms to find a mortgage.

I appreciate the opportunity to share information about the circumstances leading to some entries on my credit report. My credit rating is very important to me and I am striving to meet all of my financial obligations in a responsible manner. I am excited about owning my own house and I look forward to building a strong relationship with you as a lender. You will see that I will make all of my payments on time and I promise that you will be happy that you approved this loan.
 
Yours truly,
 
Fiona Murphy
(Frances Flynn Thorsen is Managing Editor of RealTown. This article is excerpted from her book: HUD Homes for Sale -- A Complete Buyer's Guide.)