Western Sydney resident, Katrina asks
“I defaulted on a personal loan a few years ago and I think I’ve got a bad credit rating. Would I be able to get a home loan?“
Great question Katrina, and certainly one we deal with a lot here at Mortgage World.
This really depends on the severity of the credit problem. If you’re purchasing a property, the deposit amount you have will be taken into consideration or if you’re refinancing, lenders will look at the amount of equity you have in the property.
The most common credit defaults we see are those on a credit report, for example, this may be a default on a phone bill or a utility bill. It could be more serious, like a financial default with a loan or a credit card with a financial institution. When you stop making payments on your personal loan or credit card for between three to six months or fall into arrears these are sent off to collections and institutions will find these defaults on the credit report
How the severity of the debt is measured depends on the lender. Some specialist lenders will totally disregard defaults, for example, defaults of less than $1,000 may be ignored by a specialist lender. This is not always the case and most defaults will affect your ability to secure a loan, particularly if you are applying with one of the mainstream lenders such as a bank.
There are certain leniencies, for example, if it’s a small utility bill default such as Telco (telephone service provider) or an electricity default where there’s a good explanation for the default, and its less than $1,000 then there are some instances where a mainstream lender can approve a loan. In general, anything more than $1,000 you would have to make application with a specialist lender.
How can I provide a legitimate reason for my defaults?
In terms of a legitimate explanation to validate why the default occurred in the first place, a lender would request a written or typed explanation letter signed by the client. Some typically innocent reasons why defaults may be listed, include moving properties and bills are sent to an old address. While this is still considered a legitimate reason, it is frowned upon because these days bills are electronic and sent by email and the onus is on the consumer to inform companies of the change in address.
The other obvious reason for defaults occurring involve people encountering financial difficulty. They may have lost their job or made redundant but in these instances, the defaults tend to be more severe than just an unpaid phone bill. When someone has lost their job, then he or she would usually have multiple defaults where they could not afford to make payments, and in that instance, they would need to use a specialist lender as opposed to a mainstream bank because typically when you have multiple defaults a mainstream lender is very unlikely to approve you.
How long are defaults kept on record?
If you perhaps defaulted on a personal loan and missed several payments, this information is held on record for a certain period of time before it clears. A default its referred to as a debt that has not been paid within 2 months and usually greater than $150. For example, if you have a utility bill of $150 or more and it has been outstanding for more than 2 months, the utility provider will likely list this on your credit report as a payment default.
The length of time that these records are retained for depends on the type of default.
- A clear out is where the default remains on the records for seven years, for example, an overdue account that is listed as a serious credit infringement will remain on the records for seven years
- A standard default remains on the record for five years. There are other types of credit impairments such as writs, summons, or a court judgement, that will also remain on the records for five years.
If you are wondering what happens between those five and seven years in the event you do not settle the default the simple explanation is that regardless, of whether the debt is paid or unpaid it is simply removed from your credit record after that period of time. It is common for people simply not to pay the defaults, however, the risk with this is should you have a default with a major bank, this will be visible on the records indefinitely and you will likely be black banned from that bank limiting your options for a home loan.
One other serious credit default is Bankruptcy, and this is a legal process where a person or entity is declared unable to repay debts to creditors. Unfortunately, it is not possible to secure a home loan while your bankrupt. Once you are discharged from bankruptcy, it is possible to apply for a home loan.
How and where can I check to see if there are any outstanding debts or defaults on record before applying for a home loan?
What many people are not aware of is that everyone is entitled to a free copy of their credit report. There are a number of credit reporting agencies that collect information in Australia, the main credit reporting agency is known as Equifax. Alternatively, you can visit a website called mycreditfile.com.au and there is an option to receive a free copy. This may take a little longer perhaps up to two weeks, or you can select an option to pay for a copy and normally receive it the same day.
Are there any waiting periods between resolving a default and applying for a home loan?
We are often asked if someone who has had a default on a loan and resolved the outstanding debt, if there are any waiting periods before being eligible or applying for a home loan?
We would say no, not necessarily, particularly with specialist lenders they are often able to secure loans for customers even in some cases where the default is an unpaid default. A mainstream lender historically appreciates a period of time between six to twelve months, after the defaults been paid before making application to demonstrate income stability. As mentioned previously mainstream lenders would consider applications made with less than $1,000 outstanding debt but anything outside those guidelines it would be best to engage with a specialist lender where there is no set time frame or waiting period to commence a loan application.
Our best advice and considerations for those with a credit default or negative credit rating.
Seek out the advice of a broker because brokers have access to a plethora of products and access to various types of lenders. Your specific circumstances can be matched to either a mainstream lender or a broker is able to source the best specialist lender that suits your financial needs.
Another important consideration is that, when you have a default and you are in a position where you are not able to use a mainstream lender, then there may be some restrictions on how much you can borrow or restricted to borrowing only a certain percentage of the property value. Some lenders may only approve up to 80 or 85% of the purchase price or the property value. If you’re buying a property, it basically means that you may need a larger deposit, if you’re refinancing you may need some equity.
It is important to note that specialist lenders do charge higher rates, particular where borrowers have multiple loans. One instance where applicants may not even have defaults, but they still may be classed as credit impaired is when they have a home loan that is in arrears or they hold multiple credit cards and multiple personal loans that are also in arrears, mainly because they are finding it hard to manage all those payments.
This would be a prime example where the applicant can consolidate all those debts, credit cards and the personal loans, into one home loan, which may be at a higher rate than their existing home loan, but the overall repayment is often hundreds or thousands of dollars a month less. In this instance, it is much like a debt consolidation loan. Even though the applicant may not have a default as such, but they are in arrears on their home loan, personal loan or multiple loans, mainstream lenders will not consider refinancing them so in that instance they would possibly use a specialist lender.
All lenders will have different eligibility criteria, we have witnessed lenders offering up to 95% for credit impaired applicants so it really depends on the severity of the credit issues. What we need to do is evaluate the applicants’ credit report, see what’s on there, and then work out what the best options are.
Have more questions? Give us a call
If you find your credit history is not polished and you have some concerns about applying for a home loan call us today, we can help guide you through the application process and provide you with the best finance options suited to your unique circumstances– our team would welcome your call!
Patrick is a Director and a Home Loan Specialist. He has been helping Australians with home loans since 2001. Prior to working as a mortgage broker Patrick was employed by Macquarie Bank for 3 years and also worked as an accountant for a publicly listed company. Patrick holds a Bachelor of Business majoring in Accounting and sub-majoring in Finance and Marketing from University of Technology, Sydney.