A Guide to Write a Letter of Explanation for a Mortgage
When you apply for a mortgage, you’ll be required to provide a variety of documents—bank statements, tax returns, pay stubs, and details about your debts, among others. Depending on your financial situation, your lender might also ask for a letter of explanation (LOE).
This document can be crucial, potentially making the difference between securing a loan for your new home or not. Here’s everything you need to know about mortgage letters of explanation.
What is a letter of explanation?
A letter of explanation is a document requested by mortgage lenders to help them better understand your finances. While factors like your credit score and income are important, they may not fully reflect your situation as a borrower, especially if you have limited credit history. The letter offers an opportunity to provide context for the lender, clarifying any uncertainties and demonstrating your ability to repay the loan.
If your lender asks for a letter of explanation, it’s not optional—it’s required. The lender needs further clarification to move forward with your application, and your response could be pivotal in determining whether you’ll be approved for the mortgage.
Why do you need a letter of explanation for a mortgage?
Lenders usually request a letter of explanation when they notice specific issues or irregularities in your application that need addressing. It’s a way to clear up any concerns or red flags, such as:
- Job changes: If you’ve recently changed jobs, especially close to your mortgage application, the lender may want to understand the reason behind the switch.
- Credit report issues: If you have a history of late payments or other credit issues, the letter allows you to explain the circumstances behind these incidents.
- New credit card or high balance: Recently opening a credit card or carrying a high balance may impact your credit score. The letter provides an opportunity to explain why these actions were taken.
- Large bank transactions: If there’s a significant deposit or withdrawal that’s out of the ordinary, the lender may want more details. For example, if a large deposit was a gift for your down payment, a gift letter would help explain it.
- Inconsistent income: If you’re self-employed or work as an independent contractor, the lender might request more information about the stability of your income.
If any of these situations apply to you, it may be beneficial to proactively submit a letter of explanation. Put yourself in the lender’s shoes: Is there anything in your financial profile that might cause concern?
For example, if you took unpaid leave last year to care for a family member, your bank statements may show a period of unemployment. A letter of explanation can clarify that this was a voluntary, temporary situation, which may reassure the lender that it won’t be an ongoing issue.
By addressing these concerns upfront, you help paint a fuller picture of your financial health and improve your chances of getting approved for your mortgage.
How to write a letter of explanation
If your lender requests a letter of explanation, there’s no need to worry—this is a common part of the mortgage approval process. However, it’s important to write the letter carefully and accurately. Start by including the essential details of a traditional business letter, whether you’re sending a physical copy or uploading a digital one:
- The lender’s name and address
- Your name (as it appears on your application) and any client, reference, or file number
- Your current mailing address, email address, and phone number
- The date you’re submitting the letter and, if known, the expected closing date of your home purchase
- A brief introduction or summary that helps the underwriter quickly identify the issue at hand
- Specific details relevant to the lender’s request, such as dates, dollar amounts, and account information. If supporting documents are available, include them as attachments.
- Information about your spouse or co-borrower, if applicable
- A polite and professional closing
The key is to keep the letter short and to the point. While you want to explain your financial situation, the lender already has much of the context from your loan application and supporting documents. Focus on providing a clear and professional explanation for what the lender needs clarified.
5 tips for a good letter of explanation
Here are some helpful tips to ensure your letter is effective:
- Be Honest: Transparency is critical. Ensure that all the information you provide is accurate, including dates, amounts, and other relevant details.
- Be Concise: Stick to the facts without over-explaining or including unnecessary details. Keep the letter focused on addressing the lender’s specific request.
- Maintain Professionalism: Write in a formal tone, using correct grammar, spelling, and punctuation. Treat the letter like a business communication.
- Provide a Clear Explanation: Clearly acknowledge the issue and explain why it happened. For example, if you had a period of unemployment or missed payments, explain the circumstances.
- Include Resolution Information: Outline how the issue has been resolved or how you plan to address it. Whether you’ve caught up on payments or regained employment, be sure to mention these positive outcomes.
By following these guidelines, you can provide a well-crafted letter that addresses the lender’s concerns and helps strengthen your mortgage application.
Sample letter of explanation
The exact content of your letter will vary depending on your situation, but you can use this template as a guide:
[Date]
[Lender’s Name]
[Lender’s Address]
[Lender’s City, State, ZIP Code]
RE: [Your Name] – Application Number [Your Application Number]
Dear [Lender’s Name],
I am writing to provide an explanation for the absence of payroll deposits in my [Bank Name] checking account during the months of January and February of this year.
During this time, I took an unpaid medical leave under the Family and Medical Leave Act (FMLA) due to complications following the birth of my son. I have since returned to my position with full pay, as of [Return Date]. Please find attached a letter from my employer, [Employer’s Name], verifying my current employment status, the date I resumed work, and my salary.
Should you have any further questions or require additional information, I am happy to provide it. I look forward to our anticipated closing date of May 30.
Sincerely,
[Your Name]
[Your Mailing Address]
[Your City, State, ZIP Code]
[Your Phone Number]
[Your Email Address]
If you’ve applied with a co-signer, make sure to include their name in the letter as well.
In this example, the borrower strengthens their explanation by providing a supporting letter from their employer. Submitting relevant documents, like an employer’s letter, bank statements, or medical leave records, can make your letter more compelling and help streamline the lender’s review process.
Whatever the reason for your letter of explanation, always consider if there are additional documents that can support your claim. Including this information alongside your letter can help clarify your situation and expedite the mortgage approval process.
What to do if your letter of explanation is rejected
If your lender rejects your letter of explanation, don’t be discouraged. Here’s what you can do:
- Reevaluate and Revise: Carefully review your original letter to see if any important details were omitted. Consult your mortgage officer or broker for advice on what might be missing or unclear. Then, rewrite the letter with more detailed information or additional documentation.
- Try a Different Lender: If your revised letter is still rejected, you may consider restarting the application process with another lender. Keep in mind that other lenders may also request a letter of explanation.
- Work on Your Credit: If the primary issue is related to your credit, you might consider postponing your home search and focusing on improving your credit score. Consistently paying bills on time, avoiding opening new credit accounts, and lowering your credit card balances can all help raise your score and improve your chances of approval in the future.
By carefully addressing any issues and providing strong supporting documentation, you can improve your chances of successfully obtaining mortgage approval.
