[Federal Register Volume 62, Number 201 (Friday, October 17, 1997)]
[Rules and Regulations]
[Pages 53963-53973]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-27564]


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DEPARTMENT OF VETERANS AFFAIRS

38 CFR Part 36

RIN 2900-AI16


Loan Guaranty: Credit Standards

AGENCY: Department of Veterans Affairs.

ACTION: Final rule.

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SUMMARY: This document amends the Department of Veterans Affairs (VA) 
loan guaranty regulations regarding credit standards used by lenders to 
evaluate the creditworthiness of veteran-borrowers for home loans. VA 
is committed to regular review and revision of the standards used to 
determine the creditworthiness of veteran-applicants as issues arise 
and as the mortgage industry changes. These changes are designed to 
keep VA in step with the rest of the home mortgage industry, at least 
to an extent appropriate for a Government benefit-related mortgage 
program.

DATES: Effective Date: November 17, 1997.

FOR FURTHER INFORMATION CONTACT: Ms. Judith Caden, Assistant Director 
for Loan Policy (264), Loan Guaranty Service, Veterans Benefits 
Administration, Department of Veterans Affairs, 810 Vermont Avenue, NW, 
Washington, DC 20420, (202) 273-7368.

SUPPLEMENTARY INFORMATION: In a document published in the Federal 
Register on May 7, 1997 (62 FR 24874), VA proposed to amend its loan 
guaranty credit standards, set forth at 38 CFR 36.4337, used by lenders 
to evaluate the creditworthiness of veteran-borrowers for home loans. 
Based on the rationale set forth in the proposed rule and this document 
the proposed changes are adopted, with differences explained below.
    Please refer to the May 7, 1997, Federal Register for a complete 
discussion of the proposed amendments. Interested persons were given 60 
days to submit comments. The comment period ended July 7, 1997. VA 
received three comments regarding the proposed changes.
    The first commenter, an association which represents mortgage 
lenders, supported adoption of the proposed rule.
    The second commenter, an association representing home builders, 
suggested that the language of proposed paragraph 36.4337(c)(5)(xii) be 
changed to accept other forms of tax credits in addition to those for 
child care as compensating factors. This was intended to cover child 
care tax credits of a continuing nature. VA agrees that there is no 
basis for distinguishing child care tax credits from other forms of tax 
credits of a continuing nature. The final rule at paragraph 
36.4337(c)(5)(xii) is changed accordingly.
    The third commenter, a lender who actively participates in the VA 
Guaranteed Home Loan Program, expressed general support for the 
proposed rule, but raised several concerns. The first concern related 
to proposed paragraphs 36.4337 (d) and (f), which would allow lenders 
to ``gross up'' income to account for the impact of tax-free income on 
the debt-to-income-ratio when underwriting a loan. The commenter 
observed that the ``grossing-up'' calculations should be kept simple 
and suggested that it would be helpful if VA could provide an example 
or formula of how ``grossing up'' calculations are performed. We agree 
that the ``grossing up'' calculation needs to be simple and 
understandable and believe that the revised regulations on this point 
are simple and understandable. Also, we note that the term ``grossing 
up'' is well understood by the mortgage industry. The mortgage industry 
has been ``grossing up'' income on conventional loans for many years.
    Under paragraph 36.4337(f)(4), the adjustment may be made by using 
current income tax tables. The lender need only determine what amount 
of income, when taxed at the proper combination of State and Federal 
rates, would yield an after-tax income equivalent to the tax-free 
income the veteran actually receives. The purpose of allowing lenders 
to ``gross up'' income is to enable the lender to calculate the debt-
to-income ratio as if the veteran's tax-free income were ``after-tax'' 
income. The arithmetic will vary by State, depending on various State 
and local tax rates. The lender would then use this amount to calculate 
the veteran's debt-to-income ratio, while using the actual tax-free 
income to calculate the residual income.
    For example, in a State with no income tax, the lender could simply 
show that, for a veteran in the 15 percent Federal income tax bracket, 
$1,000 of tax-free income is equivalent

[[Page 53964]]

to 85 percent of taxable income. Thus, by dividing $1,000 by .85, it is 
possible to calculate that the ``grossed up'' income is $1,176.50. In a 
State with a 5 percent income tax, the ``grossed up'' income would be 
calculated by combining the State and Federal tax rates, 20 percent. 
Thus in the same example, $1,000 of tax-free income would be ``grossed 
up'' by dividing it by .80 and the ``grossed up'' income is $1,250.

    Note: This amount is a close estimate if the veteran itemizes 
deductions, since the State income tax is deductible in calculating 
federal income tax. No particular form is prescribed for this 
material (see paragraph 36.4337(f)(4)). It can be on a separate 
sheet of paper, or simply explained on the loan analysis form, so 
long as the explanation is one that would be understandable to a VA 
or other agency loan specialist trained in reviewing loan 
applications, or can be made understandable with any further 
information the lender wishes to submit.

    The commenter questioned whether the change to VA's residual income 
guidelines in paragraph 36.4337(e) is a one-time adjustment or whether 
VA was providing for automatic future annual adjustments. The answer is 
that this is a one-time increase. Paragraph 36.4337(e) is being changed 
by increasing the amount of residual income required for family support 
by 4 percent for all categories. The computation of the Residual Income 
tables is based upon cost-of-living and expenditure data compiled by 
the U.S. Bureau of Labor Statistics. These tables have not been 
increased since 1992. This amendment increases the Residual Income 
amounts by 4 percent across the board. Any future adjustments will be 
made by separate regulatory actions.
    This commenter also raised an issue regarding the inclusion of all 
household members in the residual income calculations set forth in 
paragraph 36.4337(e). More specifically, the commenter questioned 
whether lenders would be required to verbally confirm that there are no 
additional non-claimed dependents in the veteran's household. No 
changes are made based on this comment. Prudent lenders clearly would 
discuss the information provided by the veteran and a lender would need 
to ask sufficient questions to ensure the completeness and accuracy of 
the information provided for a loan.
    In its comments, this commenter stated that imposing the same 
documentation requirements for Reserve and National Guard applicants 
that are currently required for active military personnel within 12 
months of release is somewhat burdensome. Currently, under paragraph 
36.4337(f)(2)(ii), active duty military personnel who are within 12 
months of release must provide one of the following: (1) Documentation 
that the servicemember has in fact already reenlisted or extended his/
her period of active duty to a date beyond the 12-month period 
following the projected closing of the loan; (2) Verification of a 
valid offer of local civilian employment following release from active 
duty, which includes all data pertinent to sound underwriting 
procedures such as date employment will begin, earnings, etc.; (3) A 
statement from the servicemember that he/she intends to reenlist or 
extend his/her period of active duty to a date beyond the 12 month 
period following the projected loan closing date, and a statement from 
the servicemember's commanding officer confirming that the 
servicemember is eligible to reenlist or extend his/her active duty as 
indicated and that the commanding officer has no reason to believe that 
such reenlistment or extension of active duty will not be granted; or 
(4) Other unusually strong positive underwriting factors, such as a 
downpayment of at least 10 percent, significant cash reserves, or clear 
evidence of strong ties to the community coupled with a nonmilitary 
spouse's income so high that only a minimal income from the active duty 
servicemember is needed to qualify.
    In light of the fact that members of the Selected Reserves are 
subject to the same downsizing as the regular military, we believe that 
if the income from service in the Reserves is necessary to qualify it 
must likewise be subject to the same stability criteria. For this 
reason, VA does not believe any substantive change to this paragraph of 
the proposed regulatory amendments is warranted.
    Finally, this commenter has requested further clarification 
regarding the treatment of employment history and the probability of 
the veteran's continued employment. If a veteran has a short-term 
employment history or has recently changed to a new career, it very 
well may not be possible to determine that the veteran's income is 
stable. The purpose of the change is to remove the burden of trying to 
follow up with an employer when the employer declines to verify the 
probability of continued employment. Instead, reliability will be 
determined based on the duration of the borrower's current employment 
together with his or her overall documented employment history.
    Nonsubstantive changes have been made for purposes of 
clarification.

Paperwork Reduction Act

    Information collection and recordkeeping requirements in 38 CFR 
36.4337 have been approved by the Office of Management and Budget (OMB) 
under the provisions of the Paperwork Reduction Act of 1995 (44 U.S.C. 
3501-3520) and have been assigned OMB control number 2900-0521. The 
information collection subject to this rulemaking concerns the 
information to be submitted for approval of a VA loan guaranty and 
contains material which further explains the quality of the information 
needed for approval.
    OMB assigns a control number for each collection of information it 
approves. VA may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a 
currently valid OMB control number. The valid OMB control number 
assigned to the collection of information in this final rule is 
displayed at the end of the affected section of the regulations.
    Interested persons were invited to submit comments on the 
collection of information. All comments received are discussed above.
    The Secretary hereby certifies that this final rule will not have a 
significant economic impact on a substantial number of small entities 
as they are defined in the Regulatory Flexibility Act, 5 U.S.C. 601-
612. Industry norms for other lending programs already require lenders 
to comply with most of the standards set forth in this final rule. 
Further, activities concerning loans subject to the VA Loan Guaranty 
Program do not constitute a significant portion of activities of small 
businesses. Therefore, pursuant to 5 U.S.C. 605(b), this final rule is 
exempt from the initial and final regulatory flexibility analysis 
requirements of Secs. 603 and 604.

    The Catalog of Federal Domestic Assistance Program numbers are 
64.106, 64.114, 64.118 and 64.119.

List of Subjects in 38 CFR Part 36

    Condominiums, Handicapped, Housing, Loan programs--housing and 
community development, Reporting and recordkeeping requirements, 
Veterans.

    Approved: September 5, 1997.
Hershel W. Gober,
Acting Secretary of Veterans Affairs.

    For the reasons set out in the preamble, 38 CFR part 36 is amended 
as set forth below.

PART 36--LOAN GUARANTY

    1. The authority citation for part 36 continues to read as follows:


[[Page 53965]]


    Authority: 38 U.S.C. 501, 3701-3704, 3707, 3710-3714, 3719, 
3720, 3729, 3762, unless otherwise noted.

    2. In Sec. 36.4337, the section heading; paragraphs (c) through 
(h), (j ) through (l), and (n); and the section authority citation are 
revised to read as follows:


Sec. 36.4337  Underwriting standards, processing procedures, lender 
responsibility, and lender certification.

* * * * *
    (c) Methods. The two primary underwriting tools that will be used 
in determining the adequacy of the veteran's present and anticipated 
income are debt-to-income ratio and residual income analysis. They are 
described in paragraphs (d) through (f) of this section. Ordinarily, to 
qualify for a loan, the veteran must meet both standards. Failure to 
meet one standard, however, will not automatically disqualify a 
veteran. The following shall apply to cases where a veteran does not 
meet both standards:
    (1) If the debt-to-income ratio is 41 percent or less, and the 
veteran does not meet the residual income standard, the loan may be 
approved with justification, by the underwriter's supervisor, as set 
out in paragraph (c)(4) of this section.
    (2) If the debt-to-income ratio is greater than 41 percent (unless 
it is larger due solely to the existence of tax-free income which 
should be noted in the loan file), the loan may be approved with 
justification, by the underwriter's supervisor, as set out in paragraph 
(c)(4) of this section.
    (3) If the ratio is greater than 41 percent and the residual income 
exceeds the guidelines by at least 20 percent, the second level review 
and statement of justification are not required.
    (4) In any case described by paragraphs (c)(1) and (c)(2) of this 
section, the lender must fully justify the decision to approve the loan 
or submit the loan to the Secretary for prior approval in writing. The 
lender's statement must not be perfunctory, but should address the 
specific compensating factors, as set forth in paragraph (c)(5) of this 
section, justifying the approval of the loan. The statement must be 
signed by the underwriter's supervisor. It must be stressed that the 
statute requires not only consideration of a veteran's present and 
anticipated income and expenses, but also that the veteran be a 
satisfactory credit risk. Therefore, meeting both the debt-to-income 
ratio and residual income standards does not mean that the loan is 
automatically approved. It is the lender's responsibility to base the 
loan approval or disapproval on all the factors present for any 
individual veteran. The veteran's credit must be evaluated based on the 
criteria set forth in paragraph (g) of this section as well as a 
variety of compensating factors that should be evaluated.
    (5) The following are examples of acceptable compensating factors 
to be considered in the course of underwriting a loan:
    (i) Excellent long-term credit;
    (ii) Conservative use of consumer credit;
    (iii) Minimal consumer debt;
    (iv) Long-term employment;
    (v) Significant liquid assets;
    (vi) Downpayment or the existence of equity in refinancing loans;
    (vii) Little or no increase in shelter expense;
    (viii) Military benefits;
    (ix) Satisfactory homeownership experience;
    (x) High residual income;
    (xi) Low debt-to-income ratio;
    (xii) Tax credits of a continuing nature, such as tax credits for 
child care; and
    (xiii) Tax benefits of home ownership.
    (6) The list in paragraph (c)(5) of this section is not exhaustive 
and the items are not in any priority order. Valid compensating factors 
should represent unusual strengths rather than mere satisfaction of 
basic program requirements. Compensating factors must be relevant to 
the marginality or weakness.
    (d) Debt-to-income ratio. A debt-to-income ratio that compares the 
veteran's anticipated monthly housing expense and total monthly 
obligations to his or her stable monthly income will be computed to 
assist in the assessment of the potential risk of the loan. The ratio 
will be determined by taking the sum of the monthly Principal, 
Interest, Taxes and Insurance (PITI) of the loan being applied for, 
homeowners and other assessments such as special assessments, 
condominium fees, homeowners association fees, etc., and any long-term 
obligations divided by the total of gross salary or earnings and other 
compensation or income. The ratio should be rounded to the nearest two 
digits; e.g., 35.6 percent would be rounded to 36 percent. The standard 
is 41 percent or less. If the ratio is greater than 41 percent, the 
steps cited in paragraphs (c)(1) through (c)(6) of this section apply.
    (e) Residual income guidelines. The guidelines provided in this 
paragraph for residual income will be used to determine whether the 
veteran's monthly residual income will be adequate to meet living 
expenses after estimated monthly shelter expenses have been paid and 
other monthly obligations have been met. All members of the household 
must be included in determining if the residual income is sufficient. 
They must be counted even if the veteran's spouse is not joining in 
title or on the note, or if there are any other individuals depending 
on the veteran for support, such as children from a spouse's prior 
marriage who are not the veteran's legal dependents. It is appropriate, 
however, to reduce the number of members of a household to be counted 
for residual income purposes if there is sufficient verified income not 
otherwise included in the loan analysis, such as child support being 
regularly received as discussed in paragraph (e)(4) of this section. In 
the case of a spouse not to be obligated on the note, verification that 
he/she has stable and reliable employment as discussed in paragraph 
(f)(3) of this section would allow not counting the spouse in 
determining the sufficiency of the residual income. The guidelines for 
residual income are based on data supplied in the Consumer Expenditure 
Survey (CES) published by the Department of Labor's Bureau of Labor 
Statistics. Regional minimum incomes have been developed for loan 
amounts up to $79,999 and for loan amounts of $80,000 and above. It is 
recognized that the purchase price of the property may affect family 
expenditure levels in individual cases. This factor may be given 
consideration in the final determination in individual loan analyses. 
For example, a family purchasing in a higher-priced neighborhood may 
feel a need to incur higher-than-average expenses to support a 
lifestyle comparable to that in their environment, whereas a 
substantially lower-priced home purchase may not compel such 
expenditures. It should also be clearly understood from this 
information that no single factor is a final determinant in any 
applicant's qualification for a VA-guaranteed loan. Once the residual 
income has been established, other important factors must be examined. 
One such consideration is the amount being paid currently for rental or 
housing expenses. If the proposed shelter expense is materially in 
excess of what is currently being paid, the case may require closer 
scrutiny. In such cases, consideration should be given to the ability 
of the borrower and spouse to accumulate liquid assets, such as cash 
and bonds, and to the amount of debts incurred while paying a lesser 
amount for shelter. For example, if an application indicates little or 
no capital reserves and excessive obligations, it may not be

[[Page 53966]]

reasonable to conclude that a substantial increase in shelter expenses 
can be absorbed. Another factor of prime importance is the applicant's 
manner of meeting obligations. A poor credit history alone is a basis 
for disapproving a loan, as is an obviously inadequate income. When one 
or the other is marginal, however, the remaining aspect must be closely 
examined to assure that the loan applied for will not exceed the 
applicant's ability or capacity to repay. Therefore, it is important to 
remember that the figures provided below for residual income are to be 
used as a guide and should be used in conjunction with the steps 
outlined in paragraphs (c) through (j) of this section. The residual 
income guidelines are as follows:
    (1) Table of residual incomes by region (for loan amounts of 
$79,999 and below):

                   Table of Residual Incomes by Region                  
                 [For loan amounts of $79,999 and below]                
------------------------------------------------------------------------
           Family size *            Northeast  Midwest   South     West 
------------------------------------------------------------------------
1.................................       390       382      382      425
2.................................       654       641      641      713
3.................................       788       772      772      859
4.................................       888       868      868      967
5.................................       921       902      902   1,004 
------------------------------------------------------------------------
* For families with more than five members, add $75 for each additional 
  member up to a family of seven. ``Family'' includes all members of the
  household.                                                            

    (2) Table of residual incomes by region (for loan amounts of 
$80,000 and above):

                   Table of Residual Incomes by Region                  
                 [For loan amounts of $80,000 and above]                
------------------------------------------------------------------------
           Family size *            Northeast  Midwest   South     West 
------------------------------------------------------------------------
1.................................       450       441      441      491
2.................................       755       738      738      823
3.................................       909       889      889      990
4.................................     1,025     1,003    1,003    1,117
5.................................     1,062     1,039    1,039   1,158 
------------------------------------------------------------------------
* For families with more than five members, add $80 for each additional 
  member up to a family of seven. ``Family'' includes all members of the
  household.                                                            

    (3) Geographic regions for residual income guidelines: Northeast--
Connecticut, Maine, Massachusetts, New Hampshire, New Jersey, New York, 
Pennsylvania, Rhode Island and Vermont; Midwest--Illinois, Indiana, 
Iowa, Kansas, Michigan, Minnesota, Missouri, Nebraska, North Dakota, 
Ohio, South Dakota and Wisconsin; South--Alabama, Arkansas, Delaware, 
District of Columbia, Florida, Georgia, Kentucky, Louisiana, Maryland, 
Mississippi, North Carolina, Oklahoma, Puerto Rico, South Carolina, 
Tennessee, Texas, Virginia, West Virginia; West--Alaska, Arizona, 
California, Colorado, Hawaii, Idaho, Montana, Nevada, New Mexico, 
Oregon, Utah, Washington and Wyoming.
    (4) Military adjustments. For loan applications involving an 
active-duty servicemember or military retiree, the residual income 
figures will be reduced by a minimum of 5 percent if there is a clear 
indication that the borrower or spouse will continue to receive the 
benefits resulting from the use of facilities on a nearby military 
base. (This reduction applies to tables in paragraph (e) of this 
section.)
    (f) Stability and reliability of income. Only stable and reliable 
income of the veteran and spouse can be considered in determining 
ability to meet mortgage payments. Income can be considered stable and 
reliable if it can be concluded that it will continue during the 
foreseeable future.
    (1) Verification. Income of the borrower and spouse which is 
derived from employment and which is considered in determining the 
family's ability to meet the mortgage payments, payments on debts and 
other obligations, and other expenses must be verified. If the spouse 
is employed and will be contractually obligated on the loan, the 
combined income of both the veteran and spouse is considered when the 
income of the veteran alone is not sufficient to qualify for the amount 
of the loan sought. In other than community property states, if the 
spouse will not be contractually obligated on the loan, Regulation B 
(12 CFR part 202), promulgated by the Federal Reserve Board pursuant to 
the Equal Credit Opportunity Act, prohibits any request for, or 
consideration of, information concerning the spouse (including income, 
employment, assets, or liabilities), except that if the applicant is 
relying on alimony, child support, or maintenance payments from a 
spouse or former spouse as a basis for repayment of the loan, 
information concerning such spouse or former spouse may be requested 
and considered (see paragraph (f)(4) of this section). In community 
property states, information concerning a spouse may be requested and 
considered in the same manner as that for the applicant. The standards 
applied to income of the veteran are also applicable to that of the 
spouse. There can be no discounting of income on account of sex, 
marital status, or any other basis prohibited by the Equal Credit 
Opportunity Act. Income claimed by an applicant that is not or cannot 
be verified cannot be considered when analyzing the loan. If the 
veteran or spouse has been employed by a present employer for less than 
2 years, a 2-year history covering prior employment, schooling, or 
other training must be secured. Any periods of unemployment must be 
explained. Employment verifications and pay stubs must be no more than 
120 days (180 days for new construction) old to be considered valid. 
For loans closed automatically, this requirement will be considered 
satisfied if the date of the employment verification is within 120 days 
(180 days for new construction) of the date the note is signed. For 
prior approval loans, this requirement will be considered satisfied if 
the verification of employment is dated within 120 days of the date the 
application is received by VA.
    (2) Active-duty, Reserve, or National Guard applicants. (i) In the 
case of an active-duty applicant, a military Leave & Earnings Statement 
is required and will be used instead of an employment verification. The 
statement must be no more than 120 days old (180 days for new 
construction) and must be the original or a lender-certified copy of 
the original. For loans closed automatically, this requirement is 
satisfied if the date of the Leave & Earnings Statement is within 120 
days (180 days for new construction) of the date the note is signed. 
For prior approval loans, this requirement will be considered satisfied 
if the verification of employment is dated within 120 days of the date 
the application is received by VA.
    (ii) For servicemembers within 12 months of release from active 
duty, or members of the Reserves or National Guard within 12 months of 
release, one of the following is also required:
    (A) Documentation that the servicemember has in fact already 
reenlisted or extended his/her period of active duty or Reserve or 
National Guard service to a date beyond the 12-month period following 
the projected closing of the loan.
    (B) Verification of a valid offer of local civilian employment 
following release from active duty. All data pertinent to sound 
underwriting procedures (date employment will begin, earnings, etc.) 
must be included.
    (C) A statement from the servicemember that he/she intends to 
reenlist or extend his/her period of active duty or Reserve or National 
Guard service to a date beyond the 12 month period following the 
projected loan closing date, and a statement from the servicemember's 
commanding

[[Page 53967]]

officer confirming that the servicemember is eligible to reenlist or 
extend his/her active duty or Reserve or National Guard service as 
indicated and that the commanding officer has no reason to believe that 
such reenlistment or extension will not be granted.
    (D) Other unusually strong positive underwriting factors, such as a 
downpayment of at least 10 percent, significant cash reserves, or clear 
evidence of strong ties to the community coupled with a nonmilitary 
spouse's income so high that only minimal income from the active duty 
servicemember or member of the Reserves or National Guard is needed to 
qualify.
    (iii) Each active-duty member who applies for a loan must be 
counseled through the use of VA Form 26-0592, Counseling Checklist for 
Military Homebuyers. Lenders must submit a signed and dated VA Form 26-
0592 with each prior approval loan application or automatic loan report 
involving a borrower on active duty.
    (3) Income reliability. Income received by the borrower and spouse 
is to be used only if it can be concluded that the income will continue 
during the foreseeable future and, thus, should be properly considered 
in determining ability to meet the mortgage payments. If an employer 
puts N/A or otherwise declines to complete a verification of employment 
statement regarding the probability of continued employment, no further 
action is required of the lender. Reliability will be determined based 
on the duration of the borrower's current employment together with his 
or her overall documented employment history. There can be no 
discounting of income solely because it is derived from an annuity, 
pension or other retirement benefit, or from part-time employment. 
However, unless income from overtime work and part-time or second jobs 
can be accorded a reasonable likelihood that it is continuous and will 
continue in the foreseeable future, such income should not be used. 
Generally, the reliability of such income cannot be demonstrated unless 
the income has continued for 2 years. The hours of duty and other work 
conditions of the applicant's primary job, and the period of time in 
which the applicant was employed under such arrangement, must be such 
as to permit a clear conclusion as to a good probability that overtime 
or part-time or secondary employment can and will continue. Income from 
overtime work and part-time jobs not eligible for inclusion as primary 
income may, if properly verified for at least 12 months, be used to 
offset the payments due on debts and obligations of an intermediate 
term, i.e., 6 to 24 months. Such income must be described in the loan 
file. The amount of any pension or compensation and other income, such 
as dividends from stocks, interest from bonds, savings accounts, or 
other deposits, rents, royalties, etc., will be used as primary income 
if it is reasonable to conclude that such income will continue in the 
foreseeable future. Otherwise, it may be used only to offset 
intermediate-term debts, as described in this paragraph. Also, the 
likely duration of certain military allowances cannot be determined 
and, therefore, will be used only to offset intermediate-term debts, as 
described in this paragraph. Such allowances are: Pro-pay, flight or 
hazard pay, and overseas or combat pay, all of which are subject to 
periodic review and/or testing of the recipient to ascertain whether 
eligibility for such pay will continue. Only if it can be shown that 
such pay has continued for a prolonged period and can be expected to 
continue because of the nature of the recipient's assigned duties, will 
such income be considered as primary income. For instance, flight pay 
verified for a pilot can be regarded as probably continuous and, thus, 
should be added to the base pay. Income derived from service in the 
Reserves or National Guard may be used if the applicant has served in 
such capacity for a period of time sufficient to evidence good 
probability that such income will continue beyond 12 months. The total 
period of active and reserve service may be helpful in this regard. 
Otherwise, such income may be used to offset intermediate-term debts. 
There are a number of additional income sources whose contingent nature 
precludes their being considered as available for repayment of a long-
term mortgage obligation. Temporary income items such as VA educational 
allowances and unemployment compensation do not represent stable and 
reliable income and will not be taken into consideration in determining 
the ability of the veteran to meet the income requirement of the 
governing law. As required by the Equal Opportunity Act Amendments of 
1976, Public Law 94-239, income from public assistance programs is used 
to qualify for a loan if it can be determined that the income will 
probably continue for 3 years or more.
    (4) Tax-exempt income. Special consideration can be given to 
verified nontaxable income once it has been established that such 
income is likely to continue (and remain untaxed) into the foreseeable 
future. Such income includes certain military allowances, child support 
payments, workers' compensation benefits, disability retirement 
payments and certain types of public assistance payments. In such 
cases, current income tax tables may be used to determine an amount 
which can be prudently employed to adjust the borrower's actual income. 
This adjusted or ``grossed up'' income may be used to calculate the 
monthly debt-to-income ratio, provided the analysis is documented. Only 
the borrower's actual income may be used to calculate the residual 
income. Care should be exercised to ensure that the income is in fact 
tax-exempt.
    (5) Alimony, child support, maintenance, workers' compensation, 
foster care payments. (i) If an applicant chooses to reveal income from 
alimony, child support or maintenance payments (after first having been 
informed that any such disclosure is voluntary pursuant to the Federal 
Reserve Board's Regulation B), such payments are considered as income 
to the extent that the payments are likely to be consistently made. 
Factors to be considered in determining the likelihood of consistent 
payments include, but are not limited to: Whether the payments are 
received pursuant to a written agreement or court decree; the length of 
time the payments have been received; the regularity of receipt; the 
availability of procedures to compel payment; and the creditworthiness 
of the payor, including the credit history of the payor when available 
under the Fair Credit Reporting Act or other applicable laws. However, 
the Fair Credit Reporting Act (15 U.S.C. 1681(b)) limits the 
permissible purposes for which credit reports may be ordered, in the 
absence of written instructions of the consumer to whom the report 
relates, to business transactions involving the subject of the credit 
report or extensions of credit to the subject of the credit report.
    (ii) If the applicant chooses to reveal income related to workers' 
compensation, it will be considered as income to the extent it can be 
determined such income will continue.
    (iii) Income received specifically for the care of any foster 
child(ren) may be counted as income if documented. Generally, however, 
such foster care income is to be used only to balance the expenses of 
caring for the foster child(ren) against any increased residual income 
requirements.
    (6) Military quarters allowance. With respect to off-base housing 
(quarters) allowances for service personnel on active duty, it is the 
policy of the Department of Defense to utilize available on-base 
housing when possible. In order for a quarters

[[Page 53968]]

allowance to be considered as continuing income, it is necessary that 
the applicant furnish written authorization from his or her commanding 
officer for off-base housing. This authorization should verify that 
quarters will not be made available and that the individual should make 
permanent arrangements for nonmilitary housing. A Department of Defense 
form, DD Form 1747, Status of Housing Availability, is used by the 
Family Housing Office to advise personnel regarding family housing. The 
applicant's quarters allowance cannot be considered unless item b 
(Permanent) or d is completed on DD Form 1747, dated October 1990. Of 
course, if the applicant's income less quarters allowance is 
sufficient, there is no need for assurance that the applicant has 
permission to occupy nonmilitary housing provided that a determination 
can be made that the occupancy requirements of the law will be met. 
Also, authorization to obtain off-base housing will not be required 
when certain duty assignments would clearly qualify service personnel 
with families for quarters allowance. For instance, off-base housing 
authorizations need not be obtained for service personnel stationed 
overseas who are not accompanied by their families, recruiters on 
detached duty, or military personnel stationed in areas where no on-
base housing exists. In any case in which no off-base housing 
authorization is obtained, an explanation of the circumstances 
justifying its omission must be included with the loan application 
except when it has been established by the VA facility of jurisdiction 
that the waiting lists for on-base housing are so long that it is 
improbable that individuals desiring to purchase off-base housing would 
be precluded from doing so in the foreseeable future. If stations make 
such a determination, a release shall be issued to inform lenders.
    (7) Automobile (or similar) allowance. Generally, automobile 
allowances are paid to cover specific expenses related to an 
applicant's employment, and it is appropriate to use such income to 
offset a corresponding car payment. However, in some instances, such an 
allowance may exceed the car payment. With proper documentation, income 
from a car allowance which exceeds the car payment can be counted as 
effective income. Likewise, any other similar type of allowance which 
exceeds the specific expense involved may be added to gross income to 
the extent it is documented to exceed the actual expense.
    (8) Commissions. When all or a major portion of the veteran's 
income is derived from commissions, it will be necessary to establish 
the stability of such income if it is to be considered in the loan 
analysis for the repayment of the mortgage debt and/or short-term 
obligations. In order to assess the value of such income, lenders 
should obtain written verification of the actual amount of commissions 
paid to date, the basis for the payment of such commissions and when 
commissions are paid; i.e., monthly, quarterly, semiannually, or 
annually. Lenders should also obtain signed and dated individual income 
tax returns, plus applicable schedules, for the previous 2 years, or 
for whatever additional period is deemed necessary to properly 
demonstrate a satisfactory earnings record. The length of the veteran's 
employment in the type of occupation for which commissions are paid is 
also an important factor in the assessment of the stability of the 
income. If the veteran has been employed for a relatively short time, 
the income should not normally be considered stable unless the product 
or service was the same or closely related to the product or service 
sold in an immediate prior position. Generally, income from commissions 
is considered stable when the applicant has been receiving such income 
for at least 2 years. Less than 2 years of income from commissions 
cannot usually be considered stable. When an applicant has received 
income from commissions for less than 1 year, it will rarely be 
possible to demonstrate that the income is stable for qualifying 
purposes; such cases would require in-depth development.
    (9) Self-employment. Generally, income from self-employment is 
considered stable when the applicant has been in business for at least 
2 years. Less than 2 years of income from self-employment cannot 
usually be considered stable unless the applicant has had previous 
related employment and/or extensive specialized training. When an 
applicant has been self-employed less than 1 year, it will rarely be 
possible to demonstrate that the income is stable for qualifying 
purposes; such cases would require in-depth development. The following 
documentation is required for all self-employed borrowers:
    (i) A profit-and-loss statement for the prior fiscal year (12-month 
accounting cycle), plus the period year to date since the end of the 
last fiscal year (or for whatever shorter period records may be 
available), and balance sheet based on the financial records. The 
financial statement must be sufficient for a loan underwriter to 
determine the necessary information for loan approval and an 
independent audit (on the veteran and/or the business) by a Certified 
Public Accountant will be required if necessary for such determination; 
and
    (ii) Copies of signed individual income tax returns, plus all 
applicable schedules for the previous 2 years, or for whatever 
additional period is deemed necessary to properly demonstrate a 
satisfactory earnings record, must be obtained. If the business is a 
corporation or partnership, copies of signed Federal business income 
tax returns for the previous two years plus all applicable schedules 
for the corporation or partnership must be obtained; and
    (iii) If the business is a corporation or partnership, a list of 
all stockholders or partners showing the interest each holds in the 
business will be required. Some cases may justify a written credit 
report on the business as well as the applicant. When the business is 
of an unusual type and it is difficult to determine the probability of 
its continued operation, explanation as to the function and purpose of 
the business may be needed from the applicant and/or any other 
qualified party with the acknowledged expertise to express a valid 
opinion.
    (10) Recently discharged veterans. Loan applications received from 
recently discharged veterans who have little or no employment 
experience other than their military occupation and from veterans 
seeking VA-guaranteed loans who have retired after 20 years of active 
military duty require special attention. The retirement income of the 
latter veterans in many cases may not be sufficient to meet the 
statutory income requirements for the loan amount sought. Many have 
obtained full-time employment and have been employed in their new jobs 
for a very short time.
    (i) It is essential in determining whether veterans in these 
categories qualify from the income standpoint for the amount of the 
loan sought, that the facts in respect to their present employment and 
retirement income be fully developed, and that each case be considered 
on its individual merits.
    (ii) In most cases the veteran's current income or current income 
plus his or her retirement income is sufficient. The problem lies in 
determining whether it can be properly concluded that such income level 
will continue for the foreseeable future. If the veteran's employment 
status is that of a trainee or an apprentice, this will, of course, be 
a factor. In cases of the self-employed, the question to be resolved is 
whether there are reasonable prospects that the business enterprise 
will be successful and produce the required income. Unless a favorable 
conclusion can be made, the income from such source

[[Page 53969]]

should not be considered in the loan analysis.
    (iii) If a recently discharged veteran has no prior employment 
history and the veteran's verification of employment shows he or she 
has not been on the job a sufficient time in which to become 
established, consideration should be given to the duties the veteran 
performed in the military service. When it can be determined that the 
duties a veteran performed in the service are similar or are in direct 
relation to the duties of the applicant's present position, such duties 
may be construed as adding weight to his or her present employment 
experience and the income from the veteran's present employment thus 
may be considered available for qualifying the loan, notwithstanding 
the fact that the applicant has been on the present job only a short 
time. This same principle may be applied to veterans recently retired 
from the service. In addition, when the veteran's income from 
retirement, in relation to the total of the estimated shelter expense, 
long-term debts and amount available for family support, is such that 
only minimal income from employment is necessary to qualify from the 
income standpoint, it would be proper to resolve the doubt in favor of 
the veteran. It would be erroneous, however, to give consideration to a 
veteran's income from employment for a short duration in a job 
requiring skills for which the applicant has had no training or 
experience.
    (iv) To illustrate the provisions of paragraph (f)(10), it would be 
proper to use short-term employment income in qualifying a veteran who 
had experience as an airplane mechanic in the military service and the 
individual's employment after discharge or retirement from the service 
is in the same or allied fields; e.g., auto mechanic or machinist. This 
presumes, however, that the verification of employment included a 
statement that the veteran was performing the duties of the job 
satisfactorily, the possibility of continued employment was favorable 
and that the loan application is eligible in all other respects. An 
example of nonqualifying experience is that of a veteran who was an Air 
Force pilot and has been employed in insurance sales on commission for 
a short time. Most cases, of course, fall somewhere between those 
extremes. It is for this reason that the facts of each case must be 
fully developed prior to closing the loan automatically or submitting 
the case to VA for prior approval.
    (11) Employment of short duration. The provisions of paragraph 
(f)(7) of this section are similarly applicable to applicants whose 
employment is of short duration. Such cases will entail careful 
consideration of the employer's confirmation of employment, probability 
of permanency, past employment record, the applicant's qualifications 
for the position, and previous training, including that received in the 
military service. In the event that such considerations do not enable a 
determination that the income from the veteran's current position has a 
reasonable likelihood of continuance, such income should not be 
considered in the analysis. Applications received from persons employed 
in the building trades, or in other occupations affected by climatic 
conditions, should be supported by documentation evidencing the 
applicant's total earnings to date and covering a period of not less 
than 1 year as well as signed and dated copies of complete income tax 
returns, including all schedules for the past 2 years or for whatever 
additional period is deemed necessary to properly demonstrate a 
satisfactory earnings record. If the applicant works out of a union, 
evidence of the previous year's earnings should be obtained together 
with a verification of employment from the current employer.
    (12) Rental income--(i) Multi-unit subject property. When the loan 
pertains to a structure with more than a one-family dwelling unit, the 
prospective rental income will not be considered unless the veteran can 
demonstrate a reasonable likelihood of success as a landlord, and 
sufficient cash reserves are verified to enable the veteran to carry 
the mortgage loan payments (principal, interest, taxes, and insurance) 
without assistance from the rental income for a period of at least 6 
months. The determination of the veteran's likelihood of success as a 
landlord will be based on documentation of any prior experience in 
managing rental units or other collection activities. The amount of 
rental income to be used in the loan analysis will be based on 75 
percent of the amount indicated on the lease or rental agreement, 
unless a greater percentage can be documented.
    (ii) Rental of existing home. Proposed rental of a veteran's 
existing property may be used to offset the mortgage payment on that 
property, provided there is no indication that the property will be 
difficult to rent. If available, a copy of the rental agreement should 
be obtained. It is the responsibility of the loan underwriter to be 
aware of the condition of the local rental market. For instance, in 
areas where the rental market is very strong the absence of a lease 
should not automatically prohibit the offset of the mortgage by the 
proposed rental income.
    (iii) Other rental property. If income from rental property will be 
used to qualify for the new loan, the documentation required of a self-
employed applicant should be obtained together with evidence of cash 
reserves equaling 3 months PITI on the rental property. As for any 
self-employed earnings (see paragraph (f)(7) of this section), 
depreciation claimed may be added back in as income. In the case of a 
veteran who has no experience as a landlord, it is unlikely that the 
income from a rental property may be used to qualify for the new loan.
    (13) Taxes and other deductions. Deductions to be applied for 
Federal income taxes and Social Security may be obtained from the 
Employer's Tax Guide (Circular E) issued by the Internal Revenue 
Service (IRS). (For veterans receiving a mortgage credit certificate 
(MCC), see paragraph (f)(14) of this section.) Any State or local taxes 
should be estimated or obtained from charts similar to those provided 
by IRS which may be available in those states with withholding taxes. A 
determination of the amount paid or withheld for retirement purposes 
should be made and used when calculating deductions from gross income. 
In determining whether a veteran-applicant meets the income criteria 
for a loan, some consideration may be given to the potential tax 
benefits the veteran will realize if the loan is approved. This can be 
done by using the instructions and worksheet portion of IRS Form W-4, 
Employee's Withholding Allowance Certificate, to compute the total 
number of permissible withholding allowances. That number can then be 
used when referring to IRS Circular E and any appropriate similar State 
withholding charts to arrive at the amount of Federal and State income 
tax to be deducted from gross income.
    (14) Mortgage credit certificates. (i) The Internal Revenue Code 
(26 U.S.C.) as amended by the Tax Reform Act of 1984, allows states and 
other political subdivisions to trade in all or part of their authority 
to issue mortgage revenue bonds for authority to issue MCCs. Veterans 
who are recipients of MCCs may realize a significant reduction in their 
income tax liability by receiving a Federal tax credit for a percentage 
of their mortgage interest payment on debt incurred on or after January 
1, 1985.
    (ii) Lenders must provide a copy of the MCC to VA with the home 
loan application. The MCC will specify the rate of credit allowed and 
the amount of certified indebtedness; i.e., the

[[Page 53970]]

indebtedness incurred by the veteran to acquire a principal residence 
or as a qualified home improvement or rehabilitation loan.
    (iii) For credit underwriting purposes, the amount of tax credit 
allowed to a veteran under an MCC will be treated as a reduction in the 
monthly Federal income tax. For example, a veteran having a $600 
monthly interest payment and an MCC providing a 30-percent tax credit 
would receive a $180 (30 percent x $600) tax credit each month. 
However, because the annual tax credit, which amounts to $2,160 
(12 x $180), exceeds $2,000 and is based on a 30-percent credit rate, 
the maximum tax credit the veteran can receive is limited to $2,000 per 
year (Pub. L. 98-369) or $167 per month ($2,000/12). As a consequence 
of the tax credit, the interest on which a deduction can be taken will 
be reduced by the amount of the tax credit to $433 ($600-$167). This 
reduction should also be reflected when calculating Federal income tax.
    (iv) For underwriting purposes, the amount of the tax credit is 
limited to the amount of the veteran's maximum tax liability. If, in 
the example in paragraph (f)(14)(iii) of this section, the veteran's 
tax liability for the year were only $1,500, the monthly tax credit 
would be limited to $125 ($1,500/12).
    (g) Credit. The conclusion reached as to whether or not the veteran 
and spouse are satisfactory credit risks must also be based on a 
careful analysis of the available credit data. Regulation B (12 CFR 
part 202), promulgated by the Federal Reserve Board pursuant to the 
Equal Credit Opportunity Act, requires that lenders, in evaluating 
creditworthiness, shall consider, on the applicant's request, the 
credit history, when available, of any account reported in the name of 
the applicant's spouse or former spouse which the applicant can 
demonstrate accurately reflects the applicant's creditworthiness. In 
other than community property states, if the spouse will not be 
contractually obligated on the loan, Regulation B prohibits any request 
for or consideration of information about the spouse concerning income, 
employment, assets or liabilities. In community property states, 
information concerning a spouse may be requested and considered in the 
same manner as that for the applicant.
    (1) Adverse data. If the analysis develops any derogatory credit 
information and, despite such facts, it is determined that the veteran 
and spouse are satisfactory credit risks, the basis for the decision 
must be explained. If a veteran and spouse have debts outstanding which 
have not been paid timely, or which they have refused to pay, the fact 
that the outstanding debts are paid after the acceptability of the 
credit is questioned or in anticipation of applying for new credit does 
not, of course, alter the fact that the record for paying debts has 
been unsatisfactory. With respect to unpaid debts, lenders may take 
into consideration a veteran's claim of bona fide or legal defenses. 
Such defenses are not applicable when the debt has been reduced to 
judgment. Where a collection account has been established, if it is 
determined that the borrower is a satisfactory credit risk, it is not 
mandatory that such an account be paid off in order for a loan to be 
approved. Court-ordered judgments, however, must be paid off before a 
new loan is approved.
    (2) Bankruptcy. When the credit information shows that the borrower 
or spouse has been discharged in bankruptcy under the ``straight'' 
liquidation and discharge provisions of the bankruptcy law, this would 
not in itself disqualify the loan. However, in such cases it is 
necessary to develop complete information as to the facts and 
circumstances concerning the bankruptcy. Generally speaking, when the 
borrower or spouse, as the case may be, has been regularly employed 
(not self-employed) and has been discharged in bankruptcy within the 
last one to two years, it probably would not be possible to determine 
that the borrower or spouse is a satisfactory credit risk unless both 
of the following requirements are satisfied:
    (i) The borrower or spouse has obtained credit subsequent to the 
bankruptcy and has met the credit payments in a satisfactory manner 
over a continued period; and
    (ii) The bankruptcy was caused by circumstances beyond the control 
of the borrower or spouse, e.g., unemployment, prolonged strikes, 
medical bills not covered by insurance. Divorce is not generally viewed 
as beyond the control of the borrower and/or spouse. The circumstances 
alleged must be verified. If a borrower or spouse is self-employed, has 
been adjudicated bankrupt, and subsequently obtains a permanent 
position, a finding as to satisfactory credit risk may be made provided 
there is no derogatory credit information prior to self-employment, 
there is no derogatory credit information subsequent to the bankruptcy, 
and the failure of the business was not due to misconduct. If a 
borrower or spouse has been discharged in bankruptcy within the past 12 
months, it will not generally be possible to determine that the 
borrower or spouse is a satisfactory credit risk.
    (3) Petition under Chapter 13 of Bankruptcy Code. A petition under 
chapter 13 of the Bankruptcy Code (11 U.S.C.) filed by the borrower or 
spouse is indicative of an effort to pay their creditors. Some plans 
may provide for full payment of debts while others arrange for payment 
of scaled-down debts. Regular payments are made to a court-appointed 
trustee over a 2- to 3-year period (or up to 5 years in some cases). 
When the borrowers have made all payments in a satisfactory manner, 
they may be considered as having reestablished satisfactory credit. 
When they apply for a home loan before completion of the payout period, 
favorable consideration may nevertheless be given if at least 12 
months' worth of payments have been made satisfactorily and the Trustee 
or Bankruptcy Judge approves of the new credit.
    (4) Foreclosures. (i) When the credit information shows that the 
veteran or spouse has had a foreclosure on a prior mortgage; e.g., a 
VA-guaranteed or HUD-insured mortgage, this will not in itself 
disqualify the borrower from obtaining the loan. Lenders and field 
station personnel should refer to the preceding guidelines on 
bankruptcies for cases involving foreclosures. As with a borrower who 
has been adjudicated bankrupt, it is necessary to develop complete 
information as to the facts and circumstances of the foreclosure.
    (ii) When VA pays a claim on a VA-guaranteed loan as a result of a 
foreclosure, the original veteran may be required to repay any loss to 
the Government. In some instances VA may waive the veteran's debt, in 
part or totally, based on the facts and circumstances of the case. 
However, guaranty entitlement cannot be restored unless the 
Government's loss has been repaid in full, regardless of whether or not 
the debt has been waived, compromised, or discharged in bankruptcy. 
Therefore, a veteran who is seeking a new VA loan after having 
experienced a foreclosure on a prior VA loan will in most cases have 
only remaining entitlement to apply to the new loan. The lender should 
assure that the veteran has sufficient entitlement for its secondary 
marketing purposes.
    (5) Federal debts. An applicant for a Federally-assisted loan will 
not be considered a satisfactory credit risk for such loan if the 
applicant is presently delinquent or in default on any debt to the 
Federal Government, e.g., a Small Business Administration loan, a U.S. 
Guaranteed Student loan, a debt to the Public Health Service, or where 
there is a judgment lien against the applicant's property for a debt 
owed to the

[[Page 53971]]

Government. The applicant may not be approved for the loan until the 
delinquent account has been brought current or satisfactory 
arrangements have been made between the borrower and the Federal agency 
owed, or the judgment is paid or otherwise satisfied. Of course, the 
applicant must also be able to otherwise qualify for the loan from an 
income and remaining credit standpoint. Refinancing under VA's interest 
rate reduction refinancing provisions, however, is allowed even if the 
borrower is delinquent on the VA guaranteed mortgage being refinanced. 
Prior approval processing is required in such cases.
    (6) Absence of credit history. The fact that recently discharged 
veterans may have had no opportunity to develop a credit history will 
not preclude a determination of satisfactory credit. Similarly, other 
loan applicants may not have established credit histories as a result 
of a preference for purchasing consumer items with cash rather than 
credit. There are also cases in which individuals may be genuinely wary 
of acquiring new obligations following bankruptcy, consumer credit 
counseling (debt proration), or other disruptive credit occurrence. The 
absence of the credit history in these cases will not generally be 
viewed as an adverse factor in credit underwriting. However, before a 
favorable decision is made for cases involving bankruptcies or other 
derogatory credit factors, efforts should be made to develop evidence 
of timely payment of non-installment debts such as rent and utilities. 
It is anticipated that this special consideration in the absence of a 
credit history following bankruptcy would be the rare case and 
generally confined to bankruptcies that occurred over 3 years ago.
    (7) Consumer credit counseling plan. If a veteran, or veteran and 
spouse, have prior adverse credit and are participating in a Consumer 
Credit Counseling plan, they may be determined to be a satisfactory 
credit risk if they demonstrate 12 months' satisfactory payments and 
the counseling agency approves the new credit. If a veteran, or veteran 
and spouse, have good prior credit and are participating in a Consumer 
Credit Counseling plan, such participation is to be considered a 
neutral factor, or even a positive factor, in determining 
creditworthiness.
    (8) Re-establishment of satisfactory credit. In circumstances not 
involving bankruptcy, satisfactory credit is generally considered to be 
reestablished after the veteran, or veteran and spouse, have made 
satisfactory payments for 12 months after the date of the last 
derogatory credit item.
    (9) Long-term v. short-term debts. All known debts and obligations 
including any alimony and/or child support payments of the borrower and 
spouse must be documented. Significant liabilities, to be deducted from 
the total income in determining ability to meet the mortgage payments 
are accounts that, generally, are of a relatively long term, i.e., 10 
months or over. Other accounts for terms of less than 10 months must, 
of course, be considered in determining ability to meet family 
expenses. Certainly, any severe impact on the family's resources for 
any period of time must be considered in the loan analysis. For 
example, monthly payments of $300 on an auto loan with a remaining 
balance of $1,500 would be included in those obligations to be deducted 
from the total income regardless of the fact that the account can be 
expected to pay out in 5 months. It is clear that the applicant will, 
in this case, continue to carry the burden of those $300 payments for 
the first, most critical months of the home loan.
    (10) Requirements for verification. If the credit investigation 
reveals debts or obligations of a material nature which were not 
divulged by the applicant, lenders must be certain to obtain 
clarification as to the status of such debts from the borrower. A 
proper analysis is obviously not possible unless there is total 
correlation between the obligations claimed by the borrower and those 
revealed by a credit report or deposit verification. Conversely, 
significant debts and obligations reported by the borrower must be 
dated. If the credit report fails to provide necessary information on 
such accounts, lenders will be expected to obtain their own 
verifications of those debts directly from the creditors. Credit 
reports and verifications must be no more than 120 days old (180 days 
for new construction) to be considered valid. For loans closed 
automatically, this requirement will be considered satisfied if the 
date of the credit report or verification is within 120 days (180 days 
for new construction) of the date the note is signed. For prior 
approval loans, this requirement will be considered satisfied if the 
date of the credit report or verification is within 120 days of the 
date of the application is received by VA. Of major significance are 
the applicant's rental history and outstanding or recently retired 
mortgages, if any, particularly prior VA loans. Lenders should be sure 
ratings on such accounts are obtained; a written explanation is 
required when ratings are not available. A determination is necessary 
as to whether alimony and/or child support payments are required. 
Verification of the amount of such obligations should be obtained, 
although documentation concerning an applicant's divorce should not be 
obtained automatically unless it is necessary to verify the amount of 
any alimony or child support liability indicated by the applicant. If 
in the routine course of processing the loan application, however, 
direct evidence is received (e.g., from the credit report) that an 
obligation to pay alimony or child support exists (as opposed to mere 
evidence that the veteran was previously divorced), the discrepancy 
between the loan application and credit report can and should be fully 
resolved in the same manner as any other such discrepancy would be 
handled. When a pay stub or leave-and-earnings statement indicates an 
allotment, the lender must investigate the nature of the allotment(s) 
to determine whether the allotment is related to a debt. Debts assigned 
to an ex-spouse by a divorce decree will not generally be charged 
against a veteran-borrower.
    (11) Job-related expenses. Known job-related expenses should be 
documented. This will include costs for any dependent care, significant 
commuting costs, etc. When a family's circumstances are such that 
dependent care arrangements would probably be necessary, it is 
important to determine the cost of such services in order to arrive at 
an accurate total of deductions.
    (12) Credit reports. Credit reports obtained by lenders on VA-
guaranteed loan applications must be either a three-file Merged Credit 
Report (MCR) or a Residential Mortgage Credit Report (RMCR). If used, 
the RMCR must meet the standards formulated jointly by the Department 
of Veterans Affairs, Federal National Mortgage Association, Federal 
Home Loan Mortgage Corporation, Federal Housing Administration, Farmers 
Home Administration, credit repositories, repository affiliated 
consumer reporting agencies and independent consumer reporting 
agencies. All credit reports obtained by the lender must be submitted 
to VA.
    (h) Borrower's personal and financial status. The number and ages 
of dependents have an important bearing on whether income after 
deduction of fixed charges is sufficient to support the family. Type 
and duration of employment of both the borrower and spouse are 
important as an indication of stability of their employment. The amount 
of liquid assets owned by the borrower or spouse, or both, is an 
important factor in determining that they have sufficient funds to 
close the

[[Page 53972]]

loan, as well as being significant in analyzing the overall 
qualifications for the loan. (It is imperative that adequate cash 
assets from the veteran's own resources are verified to allow the 
payment (see Sec. 36.4336(a)(3)) of any difference between the sales 
price of the property and the loan amount, in addition to that 
necessary to cover closing costs, if the sales price exceeds the 
reasonable value established by VA.) Verifications must be no more than 
120 days old (180 days for new construction) to be considered valid. 
For loans closed on the automatic basis, this requirement will be 
considered satisfied if the date of the deposit verification is within 
120 days (180 days for new construction) of the date of the veteran's 
application to the lender. For prior approval loans, this requirement 
will be considered satisfied if the verification of employment is dated 
within 120 days of the date the application is received by VA. Current 
monthly rental or other housing expense is an important consideration 
when compared to that to be undertaken in connection with the 
contemplated housing purchase.
* * * * *
    (j) Lender responsibility. (1) Lenders are fully responsible for 
developing all credit information; i.e., for obtaining verifications of 
employment and deposit, credit reports, and for the accuracy of the 
information contained in the loan application.
    (2) Verifications of employment and deposits, and requests for 
credit reports and/or credit information must be initiated and received 
by the lender.
    (3) In cases where the real estate broker/agent or any other party 
requests any of this information, the report(s) must be returned 
directly to the lender. This fact must be disclosed by appropriately 
completing the required certification on the loan application or report 
and the parties must be identified as agents of the lender.
    (4) Where the lender relies on other parties to secure any of the 
credit or employment information or otherwise accepts such information 
obtained by any other party, such parties shall be construed for 
purposes of the submission of the loan documents to VA to be authorized 
agents of the lender, regardless of the actual relationship between 
such parties and the lender, even if disclosure is not provided to VA 
under paragraph (j)(3) of this section. Any negligent or willful 
misrepresentation by such parties shall be imputed to the lender as if 
the lender had processed those documents and the lender shall remain 
responsible for the quality and accuracy of the information provided to 
VA.
    (5) All credit reports secured by the lender or other parties as 
identified in paragraphs (j)(3) and (j)(4) of this section shall be 
provided to VA. If updated credit reports reflect materially different 
information than that in other reports, such discrepancies must be 
explained by the lender and the ultimate decision as to the effects of 
the discrepancy upon the loan application fully addressed by the 
underwriter.
    (k) Lender certification. Lenders originating loans are responsible 
for determining and certifying to VA on the appropriate application or 
closing form that the loan meets all statutory and regulatory 
requirements. Lenders will affirmatively certify that loans were made 
in full compliance with the law and loan guaranty regulations as 
prescribed in this section.
    (1) Definitions. The definitions contained in part 42 of this title 
and the following definitions are applicable in this section.
    (i) Another appropriate amount. In determining the appropriate 
amount of a lender's civil penalty in cases where the Secretary has not 
sustained a loss or where two times the amount of the Secretary's loss 
on the loan involved does not exceed $10,000, the Secretary shall 
consider:
    (A) The materiality and importance of the false certification to 
the determination to issue the guaranty or to approve the assumption;
    (B) The frequency and past pattern of such false certifications by 
the lender; and
    (C) Any exculpatory or mitigating circumstances.
    (ii) Complaint includes the assessment of liability served pursuant 
to this section.
    (iii) Defendant means a lender named in the complaint.
    (iv) Lender includes the holder approving loan assumptions pursuant 
to 38 U.S.C. 3714.
    (2) Procedures for certification. (i) As a condition to VA issuance 
of a loan guaranty on all loans closed on or after October 27, 1994, 
and as a prerequisite to an effective loan assumption on all loans 
assumed pursuant to 38 U.S.C. 3714 on or after November 17, 1997, the 
following certification shall accompany each loan closing or assumption 
package:

    The undersigned lender certifies that the (loan) (assumption) 
application, all verifications of employment, deposit, and other 
income and credit verification documents have been processed in 
compliance with 38 CFR part 36; that all credit reports obtained or 
generated in connection with the processing of this borrower's 
(loan) (assumption) application have been provided to VA; that, to 
the best of the undersigned lender's knowledge and belief the (loan) 
(assumption) meets the underwriting standards recited in chapter 37 
of title 38 United States Code and 38 CFR part 36; and that all 
information provided in support of this (loan) (assumption) is true, 
complete and accurate to the best of the undersigned lender's 
knowledge and belief.

    (ii) The certification shall be executed by an officer of the 
lender authorized to execute documents and act on behalf of the lender.
    (3) Any lender who knowingly and willfully makes a false 
certification required pursuant to Sec. 36.4337(k)(2) shall be liable 
to the United States Government for a civil penalty equal to two times 
the amount of the Secretary's loss on the loan involved or to another 
appropriate amount, not to exceed $10,000, whichever is greater.
    (l) Assessment of liability. (1) Upon an assessment confirmed by 
the Under Secretary for Benefits, in consultation with the 
Investigating Official, that a certification, as required in this 
section, is false, a report of findings of the Under Secretary for 
Benefits shall be submitted to the Reviewing Official setting forth:
    (i) The evidence that supports the allegations of a false 
certification and of liability;
    (ii) A description of the claims or statements upon which the 
allegations of liability are based;
    (iii) The amount of the VA demand to be made; and
    (iv) Any exculpatory or mitigating circumstances that may relate to 
the certification.
    (2) The Reviewing Official shall review all of the information 
provided and will either inform the Under Secretary for Benefits and 
the Investigating Official that there is not adequate evidence, that 
the lender is liable, or serve a complaint on the lender stating:
    (i) The allegations of a false certification and of liability;
    (ii) The amount being assessed by the Secretary and the basis for 
the amount assessed;
    (iii) Instructions on how to satisfy the assessment and how to file 
an answer to request a hearing, including a specific statement of the 
lender's right to request a hearing by filing an answer and to be 
represented by counsel; and
    (iv) That failure to file an answer within 30 days of the complaint 
will result in the imposition of the assessment without right to appeal 
the assessment to the Secretary.
* * * * *
    (n) Additional remedies. Any assessment under this section may be 
in

[[Page 53973]]

addition to other remedies available to VA, such as debarment and 
suspension pursuant to 38 U.S.C. 3704 and part 44 of this title or loss 
of automatic processing authority pursuant to 38 U.S.C. 3702, or other 
actions by the Government under any other law including but not limited 
to title 18 U.S.C. and 31 U.S.C. 3732.

(The information collection requirements in this section have been 
approved by the Office of Management and Budget under control 
numbers 2900-0521)

(Authority: 38 U.S.C. 3703, 3710)

[FR Doc. 97-27564 Filed 10-16-97; 8:45 am]
BILLING CODE 8320-01-P