When a debt is not paid, it may go into collections or become a charge off. If an account is in collection status, it means the creditor is still attempting to collect the money. Although, a charged off account means the creditor has written off the debt and is no longer to collect. Just because the creditor is no longer collecting the debt, it is still a big negative on a credit report and will affect mortgage qualification. However, buying or refinancing a home with either collections or charge offs is still possible. Actually, FHA loans are very lenient in these cases.
How Does a Debt Become a Charge Off?
Going late on a debt has several levels. Each derogatory mark hurts a credit score and the further down the list, the worse it gets. Even though, older late payments and other derogatory accounts affect a credit score less than a recently reported item. Below are the most common ways a debt may report to the credit bureaus.
- 30 days late
- 60 days late
- 90 days late
- 120+ days late
- Charge off
- Included in bankruptcy
- Foreclosure (mortgages only)
- Repossession (cars or other similar assets)
Any of the above may start out one way and eventually become a charged off account. Once a debt becomes severely past due, the creditor has a decision to make. Options usually include filing a collection, judgment, or charging off the account.
FHA Charge Off Guidelines
As mentioned, every loan scenario is different. Even though a charge off is a negative, it has been factored into a credit score. Normally FHA loans will not require that a charged off account be paid off in order to close. Yet, charge offs within the last 12 – 24 months may cause an FHA loan to be denied. The most important credit history is the most recent. Therefore, recent charge offs would severely hurt chances of loan approval. While FHA guidelines could allow an older charged off account to stay open so a buyer or homeowner may close on an FHA loan.
FHA Guidelines for Collection Previously Reported as a Charge Off
If a previously charged off account moves to reporting as a collection, then FHA requires lenders use the FHA collection guidelines. Often this means paying off the collection or calculating a payment to be used in the debt to income ratio.