We own a rental property but the tenant makes the mortgage payments directly to the lender. The tenant has missed several payments. How do the missed payments impact me when I apply for a mortgage?

By Harry Jensen, Trusted Mortgage Expert with 45+ Years of Experience

Edited by Michael Jensen, Mortgage and Finance Guru

Updated October 20, 2020

First off, if you are listed as a borrower on a mortgage, you are legally responsible for the loan even if you personally do not make the monthly mortgage payment.  In your situation, even though your tenant is supposed to make the monthly payment directly to the lender, you are obligated for the mortgage.  There is no way to get around this point.

This means any missed mortgage payments or delinquencies appear on your credit report and affect your credit score and not your tenant's.  From the standpoint of both the lender and the credit bureaus, you are solely responsible for the mortgage regardless of any written or verbal agreement you have with your tenant.

On a related note, if you have missed or late mortgage payments within the past twelve months -- for any reason -- it can be very challenging to refinance your loan or qualify for a new mortgage.  The number of missed or late payments, how many days late the payments were and if your loan is current, all affect your ability to qualify for the mortgage.  Depending on the lender and loan program you may need to make on-time payments for at least a year to be eligible for a new mortgage.

If you want to qualify for a mortgage in the near term your first step should be to contact your existing lender and make sure that your mortgage is current.  Even if you do not use the same lender for your new mortgage, you cannot move forward unless your loan is current.  This also applies for any home equity loans or HELOCs on the property.   

Another point to keep in mind if you want to get a mortgage to buy another home is that the total monthly housing expense -- including the mortgage payment, property tax and homeowners insurance -- for the rental property is included in your debt-to-income ratio, which can make it much more challenging to qualify for the loan.

To reiterate the point I made above, the lender counts the rental property housing expense as debt for you even if the tenant pays the mortgage on the property.  In short, when you apply for the new mortgage you need to demonstrate that you can afford two monthly payments instead of only one.

Use ourMORTGAGE QUALIFICATION CALCULATORto determine the loan you can afford   

If you want to include income from the rental property to offset this additional cost, lenders typically require documentation such as tax returns for the prior two years to verify the income. Lenders review the Schedule E for the property to determine if the property generates a profit, loss or is break even.

In your case because the tenant has been paying the mortgage directly and not paying you rent, this income may not appear on your tax returns.  In this scenario, lenders typically use the lessor of 75% of rental income according to a signed lease agreement or 75% of income according to a rental appraisal report.  This may be lower than the actual payment made by your tenant, which reduces the mortgage you qualify for.

While the issues outlined above are challenging, you may be able to overcome them. First, you should document the agreement you have in place with the tenant as well as any payments made to you or the lender on your behalf.  In these situations, lenders want to see a paper trail that supports any agreement you have in place.

Additionally, I recommend that you draft a letter that summarizes your situation, including the missed payments. Ultimately, if the mortgage is in your name you are responsible for the payments but a letter of explanation may help address what happened. The letter should be factual and concise.

Finally, because your situation is relatively unique, we recommend that you contact multiple lenders in the table below to learn about their qualification guidelines.  This should enable you to understand what is feasible and determine the steps you need to take to get approved for the loan.

Sources

"B3-5.3-03, Previous Mortgage Payment History."  Selling Guide: Fannie Mae Single Family.  Fannie Mae, July 25 2017.  Web.