FHA Compensating Factors: A Guide

FHA Compensating Factors

Now that we’ve gone through some of the basics, let’s get into some additional detail on how you can qualify for these compensating factors.

Cash Reserves

When we refer to reserves in mortgages, we mean the number of months of mortgage payments that could be covered if you had a loss of income or other event that put a strain on your finances.

In order to qualify for this compensating factor, you’ll have to have 3 months’ worth of mortgage payments available if you’re buying a 1- or 2-unit property. If your property is 3 or 4 units, you’ll need reserves covering 6 months of payments.

Note that your reserves have to be verified and documented. Assets used for this can’t include closing costs or any cash out or cash back received at closing. Borrowed funds also don’t count.

Significant Additional Income

When lenders do the initial calculations on what you can afford in terms of a mortgage payment, they’re looking at your effective income. The FHA partly defines your effective income on the basis that it has a likelihood of continuing for at least 3 years after your loan closes.

However, things like overtime and bonuses aren’t always included in effective income because these can be highly variable. But if you can show that you’ve received income from select categories for at least a year, and it’s likely to continue, that’s viewed positively. The categories are as follows:

  • Overtime
  • Bonuses
  • Part-time employment
  • Seasonal work

Residual Income

Residual income is the amount of money you have left over after all of your debts are paid off each month. If you have a certain amount of money left over, you’re viewed as a potentially better borrower in the eyes of the FHA.

The amount of residual income you should have for this to apply to you is based on where you live and your loan amount. The FHA follows the VA’s guidelines for residual income.

No Discretionary Debt

When the FHA refers to discretionary debt, they mean debt outside your house payment. You can have credit cards, but they have to be paid off every month. Additionally, you have to show that the cards have been open for at least 6 months and that you’ve paid them off each month.

In general, when you’re qualifying with other debts, you want to have a DTI of 45% or less in order to be eligible for the most possible loan options. The FHA doesn’t always have hard and fast guidelines regarding what your DTI should be.

It depends on your situation, accounting for your credit score and several of the things mentioned here. However, the automated FHA underwriting system won’t approve DTI above 57%.

Minimal Increase In Housing Payment

When we speak of house payments, it can refer to either your current mortgage payment or your existing monthly rent. There may be leniency even if you don’t otherwise qualify mathematically if you can prove both of the following:

Energy-Efficient Homes

If you’re building a new home that meets energy-efficiency standards set by the Department of Housing and Urban Development (HUD) or the International Energy Conservation Code. The qualification here gets a bit complicated and you can also bring existing homes up to date, so speak with your lender about your situation.