How to Get a Mortgage Despite a Debt Judgment

A judgment is a painful court order to pay a debt, and can arise from a lawsuit, a divorce, business dispute or an array of other possibilities. Judgments are public record. They will appear on your personal credit report and can wreak havoc on your credit scores. They can also hurt your ability to get a mortgage — unless you take specific steps.

If you’re hoping to get a mortgage, any mortgage company is going to examine what led to the judgment and, more importantly, how the judgment will be accounted for.

Whether buying a home or refinancing a home you own already, the judgment will be reviewed and examined in the same manner. The lender is looking for any potential signs of a disregard for financial obligations and inability to manage liabilities, as this could signify a future risk of default on the mortgage they’re issuing.

What Consumers Must Know

If there are open judgments or garnishments specifically identified in the public records section of the borrower’s credit report used in conjunction with the loan acquisition…
Then the liability needs to be paid off at or before close of escrow on the new mortgage.

As an exception to the rule, the consumer — rather than having to pay off the judgment in full — can agree with the creditor to make timely and regular payments. The consumer will need to provide a copy of the written agreement with at least six months of timely payments made prior to the official mortgage loan approval. Additionally, a consumer is unable to prepay future months’ worth of payments in lieu of the payment history. In other words, there has to be a demonstrated consistent payment history. Additionally, the monthly payment amount must be accounted for in the qualifying process, which can limit borrowing power by increasing the consumer’s debt-to-income ratio.

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Garnishments and Borrowing Power

Commonly, a judgment will involve wage garnishment. Wage garnishments are accounted for in the exact same fashion and affect debt-to-income ratio the way other payment liabilities such as a car loan, student loan or credit card would.

The debt-to-income ratio is a method lenders use to measure how much of your income is allocated for paying debts. The higher percentage of income that goes toward debt, the more challenging it can be to secure a mortgage. Conversely, the more income left over after paying debt obligations, the better.

Take a consumer who earns $10,000 in monthly income looking to borrow $400,000. Let’s assume this consumer’s total mortgage payment will be approximately $2,800 (principal, interest, taxes and insurance, and private mortgage insurance). Let’s also assume this individual has a $500 car payment, and $200 per month in minimum student loan payments.

If this consumer has no judgment or wage garnishment …

Then this borrower has a healthy debt-to-income ratio of 35%, meaning that 65% of his income is left over after all the obligations are accounted for.

($2,800 mortgage payment + $700 in loan payments ÷ $10,000 monthly income = 35%)

If the same borrower has a judgment for $20,000, and the monthly payment for the past six months has been $600 per month …

Then the calculation works like this:

($2,800 mortgage payment + $700 loan payments + $600 monthly repayment on $20,000 judgment ÷ $10,000 monthly income = 41%)

The $600 per month payment on the judgment is 6% of the monthly income.

As a general rule of thumb, for every dollar of debt, two dollars in income is required to offset it (for ratio of 2:1).

Offsetting Judgment Debt

If you have the financial means and can take a portion of your available cash on hand to pay off the judgment in full, that is the ideal situation as the liability is paid off, and not to resume for future responsibility. If you don’t have the cash, the next best alternative is set up an agreement to pay off the debt in monthly payments. In order to accomplish this, you would need to have at least 55% of your monthly income left over after paying the wage garnishment/judgment liability, mortgage payment, and any other debt obligations like personal loans, credit cards and auto loans.

[Editor’s note: If you’re shopping for a mortgage and you have a judgment on your credit report, it’s especially important to check your credit reports to make sure there are no errors in how the debt is reported. You can check your credit reports for free every year from each of the major credit reporting agencies. It’s also helpful to keep an eye on your credit scores as you pay off debts and rebuild from a judgment, especially if you’re in the market to buy a home. There are free tools that allow you to monitor your scores, such as the Credit Report Card from Credit.com – which updates your scores and an overview of your credit reports every month.]