A letter of explanation is a plea to a mortgage underwriter. These letters are usually written when you have had credit problems in the past. While a FICO score (a three-digit number between 300 and 850) will put you into a certain category of borrowers, a letter of explanation may persuade an underwriter to finance a loan or decrease an interest rate. These letters can be the tipping point in mortgage underwriting, so it's best to take your time and write a well-crafted letter.
Pull a recent copy of your credit report. You will not be able to write an effective letter without this. You can get a free copy at annualcreditreport.com (see Resources). Highlight all accounts that are over their limit or delinquent or have been delinquent in the past.
Begin writing a first draft of your letter. Make notes for all delinquent accounts in question. There may be one main reason for serious delinquency (like a divorce), or there may be a number of different reasons that apply to different accounts. It's important to address each account.
Spend at least a paragraph on each delinquent account. Talk about the number of delinquencies, why they occurred and point to any supporting documentation to support your reasoning. Also, acknowledge mistakes if the delinquencies were as a result of simple negligence.
Don't worry about the length of the letter. It's more important to discuss all accounts in detail. The last paragraph in the letter must be a direct plea to the underwriter. Use this paragraph to discuss past mistakes, how you've worked to correct them and what you've learnt from the process. This is the section where you must appeal to the conscience of the underwriter.
Collect all supporting evidence to corroborate your claims in the letter of explanation. This is not required, but it will immensely strengthen your case with the underwriter. Supporting documents can include: divorce papers, bankruptcy papers, copies of paid in full letters, copies of doctor's notes (for disabilities) and letters from social services agencies.
Find someone to proofread your letter. Make sure the person you choose is discreet -- you do not want this information shared with the general public. Work through edits with your proofreader. Take all suggestions to heart and make changes. Double-check the letter to make sure you've thoroughly discussed all negative items on your credit report.
Compose the final draft of the letter. Proofread it, make copies of all documentation and attach them to the letter. Bring the letter or send it to your loan officer -- he will pass it on to your underwriter.