When you apply for a mortgage to purchase a home, you’ll need to hand over plenty of documentation: your bank statements, tax returns, pay stubs, details on your debts…to name just a few. Depending on your financial situation, your lender could also ask for a letter of explanation.

It may seem like a nuisance, but it’s important. Frankly, a letter of explanation could make the difference between loan approval and not.

Read on to learn more about letters of explanation, why they matter and how to write one (complete with a template you can follow and a sample letter of explanation to a mortgage lender).

What is a letter of explanation?

Mortgage lenders may ask you to write a letter of explanation to better understand your finances when deciding whether to approve you for a loan. While your lender’s underwriting department reviews factors such as your credit score and income, those figures might not paint a complete picture of you as a borrower — especially if you haven’t much of a credit history or use credit cards much. A letter of explanation helps fill in that picture, offering lenders a deeper understanding of your ability to repay a mortgage.

If a lender asks you to submit a letter of explanation, think of it as a requirement – not an option. They need further clarification on one or more matters that they will indicate. While it may seem like a nuisance, crafting and sending a letter of explanation is worth your time. That’s because doing so can increase your chances of getting approved for a mortgage loan. And sending a well-written letter punctually can demonstrate to the lender that you are a worthy candidate who is making this process a priority.

Why do you need a letter of explanation for a mortgage?

When lenders review your application for a loan, their goal is to feel confident you’ll be able to make your monthly mortgage payments. Imagine if you were loaning someone hundreds of thousands of dollars — you’d probably ask for concrete evidence that you’d eventually get that cash back, too.

If your lender asks you to submit a letter of explanation, the request is likely linked to a specific piece of information in your application that raised a red flag. A letter of explanation is simply a way to help resolve that red flag, which might include:

A job change: If you change jobs, particularly in the timeframe leading up to closing, this can be a red flag to lenders that proof of steady employment and validation of current secure job status is needed.

Issues from your past that appear on your credit report: Perhaps you were delinquent on past debt payments. Your letter of explanation can help explain these and other credit report issues.

A new credit card opening or a high credit card balance: Applying for and opening a new credit card and/or having a high credit card balance may hurt your credit. Your letter of explanation can perhaps explain the extenuating circumstances that led to these actions.

A large transaction (withdrawal or deposit) in your bank account: The lender may want more details on why a large sum of money was put into or taken out of your account. Explaining what the transaction was for and where the money came from may allay their concerns.

An unsteady source of income: If you are self-employed or an independent contractor, the lender may want a better idea of your earnings and where the money came from.

It might be wise to proactively submit a letter of explanation, especially if you’re aware of a potential red flag. Put yourself in the shoes of someone reviewing your application: Is there anything that might give them pause?

Let’s say you took eight months off work last year to help care for an elderly parent — an unpaid leave. To the lender reviewing your bank statements, you look unemployed. With a letter of explanation, you can help your lender understand that the decision to temporarily stop working was voluntary. This might alleviate the lender’s concerns about another period of unemployment in the near future.

How to write a letter of explanation

If you need to submit a letter of explanation, be sure to include all the key details of a traditional business letter — whether you’re mailing or emailing:

  • The lender’s name and address
  • Your name (as it appears on your application) and any client/reference/file number
  • The date you’re submitting the letter and the expected closing date (if you know it)
  • A summary statement or short intro that quickly helps an underwriter identify the topic under discussion
  • Your current mailing address, email address and phone number

Just because a lender requests a letter of explanation, there’s no need to panic. Follow these three steps to put together strong support for your application:

1. Be honest

The adage of “the truth shall set you free” can be adjusted to “the truth shall help you get approved.” If your lender asks you for an explanation, it’s crucial to be transparent.

“When mortgage applicants find themselves in situations that they feel could negatively impact a lending decision, the best advice is simply to be honest,” Pete Boomer, executive vice president and head of mortgage distribution for PNC Bank, says. “It is in their best interest to fully disclose to the lender the event or events that could impact a decision to lend money.”

2. Be brief

Share the facts, but stick to the facts. There’s no need to write a novel. Keep the letter concise, focusing only on the details that need to be covered. Remember that lenders process loads of applications. Rather than make their jobs more challenging with a series of dense pages, focus only on the information they need to review to get your application one step closer to approval.

3. Be business-like

This letter is not like a casual email or Slack message you send to your colleague about lunch. The recipient holds the keys to a new chapter in your life: becoming a homeowner. With that in mind, approach your letter with a heightened degree of formality. Make your past English teachers proud with pristine spelling, capitalization and business-like, careful composition.

Letter of explanation template

While the exact content of your letter depends on your circumstances, you can use this sample letter of explanation to a mortgage lender as sort of a template:

Document
Sample letter of explanation

Date

 

Lender name
Lender address
Lender city, state and ZIP Code

RE: Your Name and Application Number

 

Dear Loan Specialist:

 

I am writing to explain the absence of any payroll deposits in my [bank name] checking account for the months of January and February of this year.

 

During those two months, complications arising from my son’s birth required me to take an unpaid medical absence from my employer, under the Family and Medical Leave Act (FMLA). I have since returned to work, in my previous position and with full pay. I am attaching another letter from my employer, [its name], which verifies my active status, the date I resumed work, and my salary.

 

I am available to answer any additional questions and look forward to our expected closing date of May 30.

 

Regards,

 

Your name

 

Your mailing address
Your city, state and ZIP Code
Your phone number

If you’ve applied with a co-signer, you’ll need to include the co-signer’s name on the letter, as well.

It’s important to note that you can make a letter of explanation more compelling with supporting data and paperwork. In the example above, the borrower included a letter from their employer that supports the claim that they have returned to work after an authorized leave of absence.

Whatever your reason for writing a letter of explanation, consider if there is other documentation  that  can back up your claim, and if you have them, submit them.

Next steps to get a mortgage

Once you’ve submitted a letter of explanation, mortgage lenders may not respond right away, so be patient. To help your cause, make sure you respond to any additional inquiries quickly. Lenders appreciate borrowers who treat the home buying process with the importance it deserves. As you’re waiting, make sure you’re prepared for the final piece of the puzzle: the closing. Here’s what you can expect in the closing process.

What to do if your letter of explanation is rejected

Be prepared: The lender that requests your letter of explanation may ultimately reject it. In this scenario, don’t give up. Try writing a fresh letter of explanation that provides more details that help answer the lender’s inquiries and that is bolstered by the extra documentation you include. Think carefully about anything you might have accidentally left out of your previous letter of explanation, and dive deeper into your records to support your new letter.

If your second try fails, give thought to starting the mortgage application process all over again with a different lender. Just be aware that other lenders may also request a letter of explanation.

If you are still encountering difficulties in getting loan approval, ponder postponing your home search and working harder on improving your credit. By following best practices – including paying your bills on time, not opening new credit accounts and avoiding high credit card balances – you can raise your credit score and your chances of receiving loan approval in the future.