Will a Car Repossession Keep You From Getting a Home Loan?

Getting a loan to buy a home is an important event in anyone’s life. You need good credit and a healthy credit profile to get approved. Your credit report includes positive and negative events that make up your credit profile. Repossession is one type of negative event on a credit report that can affect approval for any type of loan, especially a mortgage.  

While a repossession won’t directly prevent you from getting a mortgage loan, it won’t make it easy. Because everyone’s credit profile is different, it’s hard to predict the impact of a repo on anyone’s home loan application. This article will explain how a repossession can affect your credit history and how it affects getting approved for a mortgage loan.

Each Borrower’s Situation Is Unique

The most common type of repossession is for a motor vehicle. But any type of repossession can affect whether or not you get a home loan. It will depend on the rest of your credit report. As mentioned, everyone’s credit is different. This and the fact that some lenders have stricter requirements than others makes the approval process unpredictable.  

Here are some things a mortgage lender will look at when determining whether or not to give you a loan: 

• The age of the repossession 

• Any remaining deficiency balance on the vehicle loan

• The number of negative items on your credit history and whether they are spread out over time

• Other important factors that affect your credit score (see below) 

Factors used to calculate your credit score include the following: 

• Payment history 

• Balances owed

• Length of credit history

• New credit

• Credit mix (different types of credit)

Missing payments will negatively affect your payment history and decrease your credit score. This is the most influential factor used to determine your credit score. Balances owed considers your credit utilization ratio. This is measured by dividing the total amount of your available credit by the total amount of your debt. If you have $10,000 of available credit and $3,000 of debt, your credit utilization ratio would be 30%. Lenders prefer this ratio to be 30% or lower.

Also, the older your credit history, the higher your credit score. This is why it’s always good to keep older accounts open, even if you don’t use any of the credit available. Finally, your credit mix considers whether your credit sources are diverse. The more diverse your credit portfolio, the better your profile appears to a lender.

In most cases, you should be able to get a home loan even if you have a repossession on your credit report. But it will not be easy, especially since the current mortgage market has tightened because of the economic effects of the coronavirus. You may have to shop around and look harder than usual. The pandemic has made it more difficult but not impossible for applicants with derogatory items in their credit profiles to get a mortgage.

That said, if you have a history of multiple repossessions within a short time or you’ve recently filed for bankruptcy, it may be very difficult to get a loan. You may need to work to repair and rebuild your credit and boost your credit score before applying for a mortgage. The good news is that this is possible, but the bad news is that it will delay your home purchase. 

What Exactly Is Credit History?

Your credit history is another important factor that affects your credit score. Your credit history is made up of the loans and credit cards that you’ve had in your life and whether you’ve paid these and other debts on time. Once you get a loan or credit card, the lender will begin reporting your payment history to the credit reporting agencies.

A credit score is a numerical rating that’s a snapshot of your credit history. It’s made up of many factors. The higher your credit score, the better your credit. Your credit report is a summary of your credit history. It lists:

• Your name, address, and Social Security number

• Your credit cards and loans

• The amounts of all your debts

• Your history of making timely payments 

Your credit score changes over time. It increases when your credit utilization goes down or you make timely payments. It drops when you miss payments or other derogatory events like repossession appear on your credit report. Getting a mortgage with favorable terms like a low interest rate is largely dependent on your credit score.

It’s important to know what’s on your credit report before you start shopping for a mortgage loan. If you notice any negative events like a repossession you can take steps to counteract the negative effects on your credit. Paying off a debt or acquiring new credit but not using it is one way to positively impact your credit. It will decrease your credit utilization rate, which is an important factor that affects your credit score.

The Fair Credit Reporting Act (FCRA) gives you the right to get a free annual credit report from each of the three major credit bureaus. The FCRA strictly requires that the three credit reporting agencies collect accurate personal information. The FCRA also gives consumers the right to dispute errors on their credit reports. So if you discover any inaccurate information that is causing you to have bad credit, you can repair it.

How Does a Repossession Affect Your Credit History?

Any type of repossession — whether the property is a motor vehicle, piece of furniture, or appliance — will show up as a negative item in your credit history. The repossession itself will stay on your credit report for seven years. But events leading up and following the repossession will also be reported to the credit bureaus and negatively affect your credit.

First, there are the late or missed payments that caused the repossession of the vehicle. Most lenders won’t initiate a repossession until your payment is 90 or more days late, but some lenders start repossession after payments are 60 days late or even sooner.

Also, if your vehicle is sold or auctioned after repossession and the proceeds aren’t enough to repay the loan in full, you’ll be responsible for a deficiency balance. This is the difference between the loan balance and the sale proceeds. It will also be listed as a debt on your credit profile. If this debt goes to a collection agency, the collections entry will also appear in your credit profile as a derogatory event.

If you fail to pay this debt, the original lender or another debt collector may eventually sue you. It will be difficult to defend against a lawsuit since there is no disputing that you owe the debt. And if the creditor wins the suit, they may be awarded a judgment. This will also hurt your credit.

If you have a repossession on your credit history, be proactive in minimizing its negative effects on your credit score. If you are currently behind on your car payments, contact your lender to see if it will help you find a solution so you can avoid repossession.

If you know you’re going to struggle to make future car payments, you may want to consider a voluntary repossession where you surrender your vehicle to the lender. Your credit report will list this as a “voluntary surrender” instead of a “repossession,” which may do slightly less damage to your credit.

If your vehicle has already been repossessed, monitor your credit report regularly to see if there is a deficiency balance and whether the debt has been referred to collections by the original lender. 

What Do Mortgage Lenders Think About Vehicle Repossessions?

Some lenders may think that you’ll have trouble making your mortgage payment if you had issues making your car payment in the past. If a lender believes that you’re at a higher risk of foreclosure, your loan will probably have a higher interest rate, which means you’ll have a higher loan payment. That is if you’re even approved.

If the repossession is recent and you still owe money on the car loan for a deficiency balance, lenders may require you to pay this debt off before they approve you for a loan. Rapid rescoring may be possible depending on the circumstances. This allows for an entry on your credit report to be updated faster than it would through the normal cycle. It is not a method of disputing negative items on your credit report.

If possible, pay off any debts related to a repossession or other derogatory event before applying for a mortgage loan. If you have a deficiency balance or judgment, pay it off. Some mortgage lenders may require these debts to be paid off prior to applying for the loan. Others will want you to at least have a debt repayment plan in place. Such plans can affect how much of a mortgage loan you can get. That’s because debt repayment plans will affect your debt-to-income ratio, which is your monthly debt divided by your monthly income. The same goes for other collections accounts.

Most lenders will consider how you dealt with the negative events on your credit report. They’ll also want to see some evidence that you won’t have the same troubles repaying debt again. This means they may ask to see additional documents that help explain your credit situation and current personal finances.

Shop Around Before Applying for a Mortgage 

There are many different mortgage lenders and mortgage lending programs available, so buyers have many choices. It pays to shop around and see which lender offers you the most based on your credit score and credit profile. Generally, lenders who use conventional mortgage guidelines won’t require collection accounts to be repaid for you to qualify for a mortgage. But there are always exceptions to the rule, especially in a tight market. 

Federal Housing Authority (FHA) and United States Department of Agriculture (USDA) mortgage loans require borrowers to have paid off their collections accounts or to have a payment plan if these accounts total more than $2,000. Paying these off will affect your debt-to-income and credit utilization ratios, which will improve your credit score and creditworthiness.

VA loan borrowers are generally not required to have paid their collection accounts if they have no more than two of them, provided they have a good overall credit profile. Again, there are always exceptions to the general rule and some lenders may ask you to pay these accounts before approving your loan.

Keep in mind that an older repossession affects your credit less than a newer one. This is true for all negative items on your report. As they age, they affect your credit score less and less. After seven years, most items will drop off your credit profile completely. (One exception is Chapter 7 bankruptcy.) If you’re within a year of an item aging off your credit report, it might be best for you to wait until then to apply for a mortgage loan. Some lenders will suggest this.

Let’s Summarize…

It’s not impossible to get a home mortgage if you have a car repossession on your credit report, but it can be difficult. Just how difficult it will be depends on your unique credit situation and whether you can find a loan program and lender that will work with you. Taking positive, proactive steps to repair and strengthen your credit before you apply for a mortgage may be the best way to get approved for a loan and to get the most favorable loan terms.