Mortgage Underwriting Letter of Explanation: Sample and Overview

If you use a mortgage loan to buy a house, your lender might at some point ask you to provide a letter of explanation, or LOE.

Some borrowers panic when a mortgage underwriter requests such a letter, fearing that their loan is going to be denied. But that’s rarely the case.

In fact, a request for an LOE is usually a good thing. It means the underwriter is trying to document their way around a certain issue in order to clear the loan for funding.

Seven things to know about the mortgage letter of explanation:

1. A mortgage LOE is a short, written explanation that addresses questions or red flags in your financial history.
2. It’s often requested when there are discrepancies like gaps in employment, late payments, or unusual bank transactions.
3. The letter helps underwriters understand your situation and verify that you can repay your loan.
4. Keep your LOE clear, concise, and honest to build trust with your lender.
5. Include specific details and, if needed, supporting documents to back up your explanation.
6. Be prepared to explain any negative information in a positive light, focusing on how the situation has been resolved or will not repeat.
7. A well-prepared LOE can help streamline the underwriting process and speed up your mortgage approval.

Mortgage Letter of Explanation (LOE) Example

Simplicity is key when writing a letter of explanation for a mortgage underwriter. All you really have to do is explain, in clear and simple language, exactly what the lender wants to know.

For example:

• If they are inquiring about an overdraft fee, tell them why it happened and whatever extenuating circumstances might have been involved. You could also explain what steps you’ve taken to avoid it happening again.
• If the lender wants an LOE to better understand a recent bank withdrawal, simply provide the details of that transaction and why it was necessary.

Here is a sample template for a mortgage letter of explanation:

When writing a mortgage letter of explanation, be as specific as possible and include actual dates and dollar amounts if applicable. If your LOE relates to a late payment or some other negative issue, you might want to describe the steps you’ve taken to ensure it won’t happen again.

Why Lenders Ask for Them

So, why do mortgage lenders ask for explanations regarding certain financial issues?

It usually has to do with credit and underwriting requirements that are imposed by secondary authorities, such as the Federal Housing Administration (for FHA loans), or Freddie Mac and Fannie Mae (for conventional home loans).

These government and government-sponsored organizations impose underwriting guidelines on lenders. For example, if a mortgage company wants to sell its loans to Freddie Mac or Fannie Mae, those loans will have to meet certain pre-established criteria.

The same is true for FHA loans, only in this case it’s the Federal Housing Administration that determines the basic eligibility criteria.

Example: A mortgage company might request an explanation for a negative entry on a borrower’s credit report. This requirement could come from the lender, or from secondary underwriting guidelines imposed by FHA or Freddie Mac.

Related: What do underwriters ask for?

Many of these secondary guidelines require mortgage companies (and their underwriters) to obtain letters of explanation from borrowers in certain situations. This is how mortgage companies document things within a borrower’s application package.

The LOE is basically a way for the lender to say: “Yes, we are aware of this issue. But we have looked into it and determined that the borrower is still a good candidate for a loan.”

Common Underwriting Scenarios

There are probably dozens of reasons why a lender would ask for a letter of explanation from a borrower. After all, they review everything from your employment history to your tax returns.

Here are some common situations where an LOE might be needed:

• Large withdrawals from, or deposits into, the borrower’s bank account — particularly in those cases where the underwriter cannot identify the source or reason for the transaction.
• Negative entries on a credit report, such as missed payments, delinquencies, foreclosures, etc.
• A high level of debt in relation to the borrower’s income (i.e., a high debt-to-income ratio, or DTI).
• A banking fee, such as an overdraft fee, that suggests the borrower has had problems managing finances in the past.
• A gap in employment that left the borrower without income for a period of time.

None of these issues are necessarily deal-breakers by themselves. They’re just common scenarios where mortgage underwriters need additional information or clarification.

If the LOE fully explains the issue, and the borrower meets all other lender and secondary criteria for approval, then the loan can still move forward.

LOE: Summary of Key Points

We’ve covered a lot in this tutorial. Here are the key takeaways:

• A letter of explanation (LOE) is a fairly common occurrence in the mortgage underwriting world, so it’s no reason to panic.
• Lenders and underwriters sometimes ask for these letters in order to document something, to obtain more information, or to satisfy the requirements imposed by FHA, VA, Freddie Mac, etc.
• Common issues that can trigger such a request include: changes in employment and/or income, large bank deposits and withdrawals, late payments, credit report discrepancies, and extenuating circumstances that might support the borrower’s cause.

Disclaimer: This is a general tutorial that may not cover all mortgage scenarios. As a result, portions of it might not be relevant to your particular situation. When in doubt, ask your lender!