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I was in the same situation as you a few weeks ago when i applied for a mortgage. I had a 5 year old collection account that I had disputed, it was for $1002. LP came back and said it would have to be paid before closing because it was over $1000 (new rule). I called the CA that day and settled for half and just have to provide proof to the Bank that it was paid! This is just my experience, others may chime in with different experience!
In my case I was actually on the phone with my LO discussing this and I asked him if I could still get the file sent to UW (I desperately wanted the get an FHA case number before 4/1 due to all the changes) with the condition that I would pay the collection. He said hang on the LP just walked in, so he explained the situation and the LP agreed to submit with that condition!! Still in UW now so I am crossing my fingers!!! Good Luck keep us posted!
Edit: I feel it necessary to add, when My file originally went through AU there were only 2 things that were flagged. The other was taken care of immediately (incorrect reporting on my CR). This collection was the other thing!
That being said I have no idea how the rest of your file looks so it is hard to compare!
I am in a situation like yours. I ask my broker about the new rules and he said no one really knows for sure whats what. Yesterday they eased up on the condition and stated that a letter could be written explaining the collections. This is very much the same thing that happens when you do not get an automatic approval and it goes to underwriting. I have one collection for 1200 that puts me over the 1000 cap. The broker told me do not pay it off yet. I was concerened it would lower my score if I did pay it off since it is 5 years old and would bring the account out of hiding. He told me that he believes it can be a stipulation that it be paid AT closing. Right now I am sitting tight until there is further clairification. It should only take a few days of the mortgage industry screaming to make that happen. The area I am looking at also qualifies for usda funding. In usda funding, the collections would not have to be paid.
Keep in mind a 640 middle score can get you past underwriting for an auto preapproval but any account in dispute will flag it. I have had all dispute remarks removed before applying for approval. Once you remove those dispute remarks your credit score will go down because that amount in dispute is now figured in your usage ratio.