Have you settled your credit card or other debt for less than you owed and now you’re wondering if homeownership is still possible? You’re not alone in dreaming of a place to call your own despite past money struggles. The good news is, yes you can buy a house after debt settlement with the right preparation and timing.
While debt settlement will impact your finances for years to come, it doesn’t have to derail your homebuyer hopes if you strategize wisely. This guide will walk you through everything you need to know to buy a house post-settlement. Let’s start with the basics.
What Is Debt Settlement and How Does It Affect You?
Debt settlement is when you reach an agreement with a creditor or debt collector to pay a lump sum that is less than the total balance owed. This appeals to people struggling with credit card, medical, or other unsecured debt since it provides partial debt forgiveness.
However, debt settlement comes at a cost beyond just the settlement amount you pay. It can seriously drag down your credit score for years. Missed payments and settled accounts will show on your credit report and impact your ability to qualify for new credit.
Debt settlement also doesn’t completely wipe out the debt. You avoid bankruptcy, but any remaining balances with creditors who didn’t settle are still owed in full. You’ll need a plan to pay off debt that wasn’t settled to truly recover.
What’s the Timeline for Buying a House After Settling Debt?
It Depends on Factors Like Your Credit Score
Mortgage lenders want to see a reasonable credit score proving you can handle financial responsibility. Most require a minimum score around 620, with scores of 760+ needed for the best rates. If your score took a hit after settlement, wait until you build positive history again before applying.
And Your Debt-to-Income Ratio
Lenders also look at your debt-to-income (DTI) ratio, which measures how much of your gross monthly income goes to debt payments. You’ll typically need a DTI of 36% or lower to qualify for a mortgage. Ongoing debt obligations could keep your ratio too high post-settlement.
Don’t Forget Down Payment Savings
You’ll need cash on hand for a down payment, ideally 20% or more of the home’s purchase price. This shows lenders you’re financially prepared. Begin saving well in advance since settlement could deplete your available funds.
Plus Consistent Employment
Lenders want to see at least two years of steady employment income. Switching jobs soon after settlement might delay your approval timeline.
Realistically you may need to wait at least a year after debt settlement to work on improving your mortgage qualifications. But your specific timeline depends on your unique situation with credit, income, savings and more.
Strategies to Get Mortgage-Ready After Debt Settlement
Let’s look at proactive steps you can take to get back on track to homeownership post-settlement.
Pay Down Remaining Debts
Address any debt that wasn’t settled right away. Make at least the minimum monthly payments, then aggressively pay extra to knock out balances faster. This minimizes additional credit damage.
Stay diligent in reducing debts to lower your DTI for mortgage approval. Having less debt also gives you more cash flow to direct towards saving.
Actively Improve Your Credit
Late and settled accounts will drop your scores, but positive payment history going forward can offset the damage. Keep credit card balances low and pay bills on time each month. Consider becoming an authorized user on someone else’s old credit card account in good standing.
You may need to let at least a year pass for the impact on your credit to improve before applying for a mortgage. Be patient and keep working on it.
Make Down Payment Savings a Priority
Lenders like to see a down payment of at least 20% of the home’s purchase price. This shows you’re financially prepared and reduces the mortgage amount borrowed.
Start saving whatever you can each month, even small amounts. Open a separate savings account just for the down payment to keep it separate from day-to-day spending temptations. You may need to make some budget cuts to find extra money for savings.
Reduce Your Debt-To-Income Ratio
Recall that lenders want your DTI at 36% or lower. Calculate your current ratio and take steps to reduce it like paying down debts, increasing income, or lowering housing costs.
For example, trading a car lease for a less expensive used car can free up monthly budget room. Picking up a side gig to earn extra income lowers your ratio too. Get the number down before applying for a mortgage.
Utilize Special Mortgage Programs
If your finances are still recovering post-settlement, special mortgage programs make buying a home more feasible. These include:
FHA-backed mortgages only require a 3.5% down payment and minimum 580 credit score. They offer more flexibility if you’re still rebuilding credit.
First-Time Homebuyer Programs
State and local governments often have mortgage assistance programs just for first-time buyers. These can feature low down payments around 3-5% and looser credit requirements.
USDA and VA Loans
Those who qualify can use VA loans for 0% down with no minimum credit score. USDA loans also offer low down payments for rural properties.
Check if these options are available in your state or area to take advantage of the benefits.
Work With Nonprofit Credit Counselors
Here’s an alternative route to consider. Nonprofit credit counseling agencies can facilitate “debt management programs” that actually help improve your credit. This is different from debt settlement programs which often hurt scores.
Nonprofit agencies take a more holistic approach, providing:
- Certified housing counselors to guide you on homebuying preparedness
- Customized debt repayment plans where the creditor agrees to waive interest and fees
- Protection from debt collector calls while enrolled in a program
- Long-term financial coaching and money management classes
If debt settlement was a shortcut that backfired, connecting with nonprofit credit counselors gets you back on the effective path to homeownership.
FAQs on Buying a Home After Settling Debt
How long after debt settlement do I have to wait to buy a house?
There’s no set requirement, but at least 12 months is recommended to work on credit repair and savings. Meet with a housing counselor for a personalized timeline estimate.
What are my chances of getting approved for a mortgage right after settling debt?
It’s unlikely most lenders would approve you immediately post-settlement given the financial red flags. Give yourself time to rebound first.
What credit score is needed to qualify for a mortgage after debt settlement?
Aim for at least 620, but ideally 720 or higher. The higher your score, the better your loan terms will be.
How much money do I need to save for a down payment after debt settlement?
Ideally 20% or more of the home’s purchase price. So for a $200,000 home, strive for $40,000 or more saved.
While debt settlement makes buying a house trickier, homeownership is still possible with diligent financial recovery efforts. Give yourself time to pay down remaining debts, boost savings, and repair credit before applying for a mortgage. Enlist the guidance of nonprofit credit counseling agencies.
With strategic planning and patience, you can achieve your dream of homeownership even after undergoing debt settlement. The process may take longer than you hoped, but your perseverance will pay off. Stay positive and keep focusing step-by-step on improving your finances. You’ve got this!