Americans who have poor credit have long felt shut out of the house buying market, but new bad credit home loan programs may offer opportunities that were previously unavailable. After the financial crash of 2008 and 2009, many subprime mortgage loans disappeared. With millions of Americans hindered by low score, the demand for bad credit home loans has never been greater.
If you did not have a credit score in at least the high 600’s, you often were out of luck. Or, if you could get a loan, the interest rate and down payment required were much higher.
Back in 2005, one out of seven loans that was approved had borrowers with credit below 630; this was just one out of 500 borrowers in 2013.
If you have derogatory credit, you still will have more challenges to get a home loan with bad credit, but things are easier today than a few years ago.
If your credit profile fits the criteria below, you will likely need to look for bad credit mortgages outside of conventional financing to be approved:
- A credit score under 620
- Two or more late payments of 30 days on a mortgage in the last calendar year
- A delinquency on your mortgage of 60 days in the last calendar year
- A foreclosure in the last 24 months
- Bankruptcy in the last 24 months
- Debt to income ratio over 50%
Fortunately, lenders are becoming more forgiving today about low credit scores. If you need a bad credit home loan, consider these options:
#1 FHA Home Loan for Bad Credit
Your best option for getting a bad credit home loan is the Federal Housing Administration. This is one of the original, government backed mortgages that has been helping home-buyers for more than 70 years.
FHA loans are offered by traditional mortgage lenders, but they are secured by FHA, meaning that if you do not pay your mortgage, the FHA will reimburse the lender.
This additional security encourages more lenders to loan to people with average or poor credit.
In many cases, to qualify for bad credit home loans backed by the FHA, you need to have a 580 or better credit score, but the exact credit requirements will vary by lender.
Also, you can qualify for an FHA loan in many cases with just a 3.5% down payment. Credit and income standards are quite forgiving on these loans given that they are backed by the FHA.
Remember you will need to pay both an upfront and annual mortgage insurance premium. While mortgage insurance on bad credit home loans with FHA has getting more expensive, a poor credit borrower really cannot do much better than an FHA loan.
#2 Bad Credit Home Loan Backed by USDA
If you have poor credit and are looking to live in a rural area, a USDA loan could be just what you need.
The USDA offers 100% financing loans to people with low and moderate incomes in rural areas. The loans can also be for some suburban homes as well, depending upon the location.
The loan can include closing costs and the interest rates are very competitive. As with FHA mortgages, the credit and income criteria are quite flexible. The loan funds also can be used in part to do repairs on the property.
#3 VA Home Loan for Poor Credit
For military veterans or active military, you cannot beat the VA loan. It is similar to the FHA loan is that it is secured and backed by the Department of Veterans Affairs. It has been designed to encourage lenders to give loans to members of the military, who often have a low or moderate income. VA offers some of the best bad credit home loans because there is no minimum credit score requirement and these loans are 100% guaranteed by the VA.
The loan does not require a down payment, as long as the property appraises for the amount you are borrowing.
VA loans also do not have any mortgage insurance, so this is a fantastic deal for military vets with poor credit.
About Mortgage Approvals
Both Fannie Mae and Freddie Mac have software programs that they use that will automatically approve many loans based upon credit score, total debts, and income. This is referred to as automated underwriting.
If you have poor credit, you may not be a candidate for automatic underwriting. But the lender still may be able to approve you via manual underwriting.
Some mortgage companies will still allow the loan application to be approved if you have a low credit score. But you may need to have something else to compensate for it.
For example, if you have a 590 credit score, you may have trouble being approved for many bad credit home loans. But if you can put more money down or have several months of cash reserves, you may be able to get approved. Or, if you can prove that you paid your rent on time for the last 12 months, you may be able to get the green light.
Experts in the mortgage industry say you may be able to boost your chances for a loan approval by trying some or all of the following:
- Pay all of your bills and credit card payments on time for at least a year before you apply for a mortgage. Recent payment history is more important for mortgage approval than a spotty payment record three years ago.
- Pay your rent on time for at least a year before you apply for a mortgage. Showing that you are paying your housing payment on time is a major plus.
- Save up to put more money down. If you can put down 20%, you will be able to convince many mortgage companies that you are a good risk.
- If you have to get a higher interest, bad credit home loan, keep your nose clean for two years and pay everything on time. After that, you may be able to refinance into a low interest conventional loan.
The Bottom Line
Today there are more options than ever for people who have poor credit and want a home loan. For the vast majority of borrowers with low fico scores, the bad credit home loan insured by the FHA is your best bet, unless you are a military veteran; in that case, go for a VA loan.
If you apply at several FHA-approved lenders, you may not be approved at every one. Experts advise you to keep shopping until you find a lender who will work with you.