If you’ve defaulted on your taxes in the past and have an existing tax lien, you may wonder if you can get VA financing. Even though most government programs forbid the use of their program if you defaulted on a federal loan before, taxes could be an exception.
This isn’t to say that getting a VA loan with a tax lien will be easy. You may find a lender that flat out deny your application. However, with a little work and the proper steps, you may find a willing lender along the way.
Making Good on Your Tax Lien
Your first priority must be to pay the taxes that you owe. Chances are if it’s a lien now, then you don’t have the money to pay it off in full. Luckily, that’s not your only option, even though it’s the best one.
With the tax lien paid in full, the VA can move forward with your loan, disregarding the money you owed the government. If you cannot pay it, you’ll have to have a payment plan in place. Unfortunately, you cannot start a new payment plan and then turn around and apply for the VA loan, though.
You’ll have to establish a solid payment history before you can apply for the VA loan. Typically, the VA and lenders want to see at least 12 months of payments. Not only must you make 12 payments; they must be on time. This way the lender knows you will make good on your debt. If you don’t, it puts the lender at great risk as tax liens take first priority over any other liens on the property. This includes mortgages.
Qualifying With Your Debt Ratio
There’s one more obstacle you must get past when you have back taxes. Once you establish the payment plan, you must prove you can afford both the tax lien and the new mortgage. In other words, your debt ratio must be less than 41% in order to qualify for the loan.
The lender will need official proof of your payment plan agreement. The lender will need any paperwork you receive from the IRS that shows the amount of the payment, due date, and when the loan will be paid in full. The lender will then figure this payment into your debt ratio just like they would with any other debt, such as credit card, car payments, or student loans.
Create Compensating Factors
Since it is up to each lender’s discretion whether you can get the loan, you’ll want compensating factors. This helps the lender see your application is less risky. A few good examples of compensating factors include:
- Liquid assets on hand to pay the mortgage if your income stopped
- Consistent income (no job changes in the last few years)
- High credit score
- Low debt ratio
If you have one or more of these factors, you may qualify for the loan a little easier. For example, let’s look at two borrowers:
Joe has a credit score of 650, a 40% debt ratio, and has held the same job for only 1 year. He has a tax lien that he has a payment arrangement on, but he must borrow 100% of the purchase price. Joe looks very risky to a lender. He will not have any equity in the home and has a high debt ratio in combination with a poor history of paying debts (thus the tax lien).
John has a credit score of 720, a 36% debt ratio and has had the same job for 4 years. He has a tax lien which he has paid on time for the last 2 years. He also must borrow 100% of the purchase price of the home. John is not as risky as Joe. He has a higher credit score, which shows financial responsibility. He also has a low debt ratio and consistent employment.
When you have back taxes there is no guarantee of loan approval, but you can increase your chances by making good on your debts. Increase your credit score, save money in a liquid account, and stay at the same job. This can help you get the loan you need despite the fact that you had a tax lien in your past.