How to Format a Mortgage Letter of Explanation

When a mortgage lender reviews a loan application, their main concern is whether the applicant will be able to pay the loan back. A financial professional known as an underwriter will evaluate your personal information in order to determine how confident they are that you’ll be able to do that.

The underwriter will look at factors like your credit score, income, and work history to determine whether you meet the lender’s criteria for a loan. But underwriters understand that this kind of information does not tell a person’s entire story.

Photo by Karolina Grabowska from Pexels

Something that looks like a red flag might have a reasonable explanation. The underwriter might ask you to submit a “letter of explanation” to help them understand something they saw in your file.

When do I need to write a letter of explanation?

Underwriters may ask for a letter of explanation when they think it may help alleviate concerns about your ability to pay back the loan. They’re asking you to explain a “red flag” within your financial information.

Common situations in which an underwriter may request a letter of explanation include:

You have gaps in your employment history, you recently changed jobs, or you have been self-employed for a long time;
Your income has recently changed by a significant amount, upwards or downwards;
Your credit report includes other names or addresses;
Your credit report shows delinquencies, overdraft fees, or other negative entries; or
You have a high debt-to-income ratio

You should not assume that a request for a letter of explanation means that your loan application is in trouble. Many loan programs, including FHA loans, VA loans, and loans backed by Fannie Mae and Freddie Mac, require underwriters to request a letter of explanation for certain items.

It is not unusual for a loan applicant to submit a letter of explanation before being asked. If you know about something that is likely to turn up in your credit report, employment history, or elsewhere, and you think it might give an underwriter second thoughts about you, a proactive letter of explanation might be a good idea.

What should I put in a letter of explanation?

Your letter of explanation should answer the underwriter’s questions as clearly as possible. At a minimum, the letter should include the following:

Identifying Information and Date

At the beginning of the letter, you should include information that identifies both you and the lender and states the date that you are writing. You should also include your address and phone number.

Loan Application Information

You should provide information to identify your loan application, which will help make sure the letter finds its way to your underwriter. This might include an application number, the property address that you’re interested in buying, and an estimated closing date for the property you want to buy.

Information Requested by the Lender

You should include several paragraphs answering whatever questions the underwriter sent to you. Provide as much information as you can.

For example, if the underwriter asked you about gaps in employment, you should give an honest account of what happened. If you were out of work for several months because of an injury, because you were caring for a sick relative, or because you decided to take a break from it all, say so.

Supporting Documents

You may provide the underwriter with copies of any documents that back up your explanation of what happened. In many situations, you should not expect the underwriter to simply take your word for it - especially when their concern involves decreased income or large debts.

Suppose your credit score took a nosedive because you were the victim of identity theft. You can include documents with your letter of explanation that show what happened, such as police reports or correspondence with financial institutions. If you took a leave of absence from work to care for a sick family member, you can send the underwriter correspondence with your employer and medical staff. The more supporting documentation you can provide, the better.