For those who have declared bankruptcy, it may feel as though you're on financial probation for up to 10 years, since that's how long a bankruptcy can stay on your credit report. However, mortgage borrowers could be eligible to apply for a home loan in as little as one year following a bankruptcy.
"If you filed Chapter 7 bankruptcy, which means you discharged all your debt, you are eligible to apply for a mortgage in two years for an FHA or VA loan and in four years for a conventional loan," says Julie Flatland, vice president of credit in the mortgage lending division of Carrington Mortgage Services in Santa Ana, Calif.
"If you filed for Chapter 13 bankruptcy, you can be eligible in one year for an FHA or VA loan and in two years for conventional financing," she says. "While those post-bankruptcy rules are the industry standard, sometimes a lender will make an exception and approve an FHA or VA loan earlier if there were extenuating circumstances such as unemployment by the primary wage-earner."
Lenders for both conventional and government-insured mortgage loans will scrutinize your credit report to make sure you are paying bills on time and haven't taken on too much new debt.
"Consumers seeking a mortgage loan after filing for a Chapter 7 or 13 bankruptcy should ensure all bills are current and payments are made on time, as this will help to reestablish strong new credit," said Susan Fitzpatrick, director of communications at GMAC Mortgage in Fort Washington, Pa., in an email. "Additionally, borrowers should keep all supporting documents related to their bankruptcy and have documentation on hand to support any extenuating circumstances of their bankruptcy."
Bankruptcy and your credit
A bankruptcy will lower your credit score initially, but how much depends on your credit score and history prior to the bankruptcy. The farther you pull away from bankruptcy, the less of an impact it has on your credit score, says Gail Cunningham, vice president of membership and public relations for the National Foundation of Credit Counseling in Washington, D.C.
Borrowers of FHA and VA loans can be approved with credit scores as low as 620 or 640, depending on the lender. Since conventional loan interest rates depend on your credit score, borrowers with a score of 740 or higher generally qualify for the lowest mortgage rates.
4 post-bankruptcy strategies
Cunningham recommends the following four tips to rebuild your credit so you're ready to apply when the waiting period is over:
No. 1: Get a credit card. Your credit will improve if you can use credit wisely. Opening up a credit card, using it and immediately paying off the balance can boost your score.
"You may need to be an authorized user on someone else's credit card at first, but you'll get the glow of the credit card owner's positive repayment history on your credit card," Cunningham says. "You can also get a secured credit card, but not all of them report your payment history to the credit bureaus. Check to make sure you choose one that does."
When you eventually qualify for a credit card on your own, Cunningham warns not to take on too much credit because you will once again appear overextended.
No. 2: Save, save, save. "Start saving at least 10 percent of your take-home pay from each paycheck," says Cunningham. "You'll need cash for a down payment and lenders want to see a pattern of saving."
No. 3: Open a checking and savings account. Cunningham says conventional lenders will want to see statements from these accounts when you apply for a mortgage. Be sure to avoid overdraft charges on your accounts since it indicates financial irresponsibility.
"FHA and VA loans allow non-traditional credit, so people who prefer not to open a bank account can bring pay stubs to prove their income and bring cash for the down payment and escrow account," says Flatland.
No. 4: Pay your rent and utility bills on time. "A lender will need to see at least 12 months of consistent payments for your rent and utilities," says Flatland. "Make sure you keep documentation of all those payments and even payments for things like insurance."
While rebuilding your credit can take time after a bankruptcy, it is possible to quickly move forward and qualify for a mortgage within just a few years.
Michele Lerner, author of "HOMEBUYING: Tough Times, First Time, Any Time", has been writing about personal finance and real estate for more than two decades for a variety of publications and websites including Investopedia, Insurance.com, HSH.com, SavingsAccount.com, National Real Estate Investor magazine, The Washington Times, Urban Land magazine, NAREIT's REIT magazine and numerous Realtor associations.