There’s one debt that lenders can’t overlook when looking at your credit history – tax debt. If you owe the federal government money, expect the lender to have an issue with it. While you may be able to secure a mortgage, it won’t be as easy as it would if you had blemished credit for any other reason other than taxes.
Here’s the problem. The IRS can levy your property. In other words, they can put a lien on your property that supersedes the bank’s lien. If you went into foreclosure or even if you sold your home, the IRS gets paid first. In other words, the bank may or may not receive all of their money back, especially if you go into foreclosure.
So what can you do? Check out your options below.
Ways to Get out of your Tax Debt
First, you have to figure out how to get out of your tax debt. The best way is obviously to pay the debt in full. Of course, if that were an option, you wouldn’t be in this situation in the first place.
Your next best bet is to pay as much as you can. If you show a good faith effort in making good on your debt, you’ll show financial responsibility. You can try a few things:
- Make incremental payments until you pay the debt in full
- Settle for a less amount that what you owe (with the IRS’s agreement)
- Work out a payment plan with the IRS
Can you Buy a House if You Have a Payment Plan for your Back Taxes?
Until recently, it was impossible to get a mortgage even if you had a payment arrangement for your back taxes. Lenders were still too worried about the risk of a lien and no loan programs allowed you to get a mortgage with unpaid taxes.
Today, however, both Fannie Mae and the FHA allow borrowers to get a loan with an IRS payment plan. Both programs have specific requirements regarding how to qualify, though.
Fannie Mae requires:
- An official payment plan with the IRS in place
- Proof that the IRS didn’t file a lien against the property
- Proof that you are current on your installment payments
- An official payment plan agreement with the IRS
- Proof that you’ve made at least three monthly payments on time
Of course, it will still be up to the individual lender. You may find that you have to shop around to find a willing lender since IRS tax liens can put them at risk of losing a significant amount of money.
Can You Get a VA Loan if you Have Back Taxes?
The VA also allows you to secure financing if you have a payment plan with the IRS. Again, you must prove that you’ve made your payments on time and that you have a qualified plan in place. The VA lender will need proof of the plan’s validity and your on-time payments. Fortunately, the back taxes don’t affect your Certificate of Eligibility or require you to put money down on the home.
How to Maximize your Chances of Approval with Back Taxes
Before you apply for a mortgage, no matter which program, get your IRS payment plan in place. It can take a few weeks to a few months to get it in place. Don’t apply for a mortgage with an unpaid amount in the lurks with no plan in place. you need solid proof that the IRS agreed to your payment amount.
Your lender also needs to know the monthly payment amount. They will use this amount to calculate your debt-to-income ratio, just as they use your credit card payments, mortgage payment, and any other monthly payments you have. The lower that your debt-to-income ratio is, the higher your chances of getting approved become.
Also, try maximizing your compensating factors. As we discussed above, back taxes put lenders at high risk of default. If you can prove that you aren’t risky by proving any of the following, you may have a better chance of approval:
- High credit score
- Low debt ratio
- Adequate assets sitting in reserves
- Stable income or employment
- A large down payment
The bottom line is that you can get a mortgage if you owe back taxes. It all depends on how you handle those back taxes. If you don’t make good on them either by paying them in full or applying for a payment plan, then your chances of mortgage approval become harder. Make good on your debt or put forth a good effort, though, and your chances increase greatly.