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How to Explain Derogatory Credit

As part of the loan process, your borrower may be required to provide an explanation for derogatory credit such as late payments, bankruptcy, or judgments. This is a very important step and may make the difference in the loan program and interest rate that your borrower is approved for. While some borrowers are sophisticated enough to handle the task independently, others may require some help. Rather than writing an explanation yourself, give the borrower some guidance on the proper format. A good credit explanation should contain the following:

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1. An acknowledgement of what happened. This demonstrates honesty and understanding of the necessity to repay the debt.

2. A reason why it happened. Don’t leave this to the underwriter’s assumption. Circumstances that are within the borrower’s control will be viewed differently from those that are not (i.e. loaning your bill money to a friend vs. being laid-off from a job).

3. A statement of what is different now. This part of the letter is essential. The lender needs to know what has changed in the borrower’s life that will reduce the likelihood that the proposed loan will not go into early default.

4. Finally, if supporting documentation is available, include it.

A few excuses that are NOT recommended:

· I don’t know what this is/It’s not mine. While this may be true, there should still be some comment stating when the borrower became aware of the erroneous entry and what has been done since that time to remove or correct it. The borrower should acknowledge whether or not it belongs to a relative.

· The product/service was no good so I didn’t pay for it. The borrower typically has other remedies available and should seek them out. The lender might assume that the borrower won’t like his/her mortgage payment down the road either. If the matter is being disputed, the borrower should state that as well.

· I didn’t know I had to pay the money back. Well, some things are just better left unsaid.

Make sure that your borrower’s credit explanation letter corresponds with the credit report. If there are five derogatory items, make certain that all five are addressed rather than just two or three. If a single incident caused several derogatory items, be sure that your borrower’s letter states that (i.e. job loss, divorce, etc.). Most

importantly the incident and the reason for it should make sense.

Stephanie Graham is a mortgage professional with more than two decades of experience in both retail and wholesale lending. Stephanie has excelled in a number of positions including CRA officer, corporate trainer, consultant, and as an executive of Complete Mortgage Processing. More tips and techniques for mortgage processing and origination can be found at []

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