If your credit score is cringe-worthy and you’re thinking about buying a house, you may have some legitimate concerns about your chances of getting approved. But fear not: You may still be able to get a mortgage with bad credit. However, your credit history will undoubtedly make the application process more nerve-wracking, complex, and expensive.
Unless you’re in a time crunch, the smart plan would involve devoting yourself full time to fixing your credit. But if you’re in a situation now where renting isn’t a long-term solution, you’ll want to learn more about the steps you can take immediately to improve your credit and make yourself a more qualified to buy a house with low credit or easy home loans with bad credit.
About Your Credit Score
Quite simply, a credit score is an assessment of your qualifications and gives an idea of your overall risk as a borrower. Most know it as a three-digit number that can be obtained from one or all of the three major credit bureaus — Equifax, TransUnion, and Experian. The FCRA, or Fair Credit Reporting Act, requires each of these companies to provide you with a free copy of your credit report once every 12 months. That report will likely have a detailed record of your bill payments, but it might also include information on whether you’ve ever filed for bankruptcy or been sued.
What your credit report isn’t obligated to give you is your credit score, also known as your FICO Score. This is calculated from the information found in your credit report but is likely to vary slightly depending on which bureau compiles the information.
Credit Score Calculation
There are several factors that go into calculating your credit score, but generally, the breakdown looks like this: Your score is based on your payment history, the amount of borrowed money owed, the length of your credit history, any new credit you’ve applied for, and what your credit profile (or mix) looks like.
Your credit score changes frequently, and each ‘category’ that factors into your score will be weighted differently depending on how long your credit has been established. That means if you don’t have a lengthy credit history, your score will be calculated differently than someone who does.
Keep in mind, your credit score is calculated specifically from the information in your credit report. However, when applying for a mortgage, potential lenders will also look at other things when deciding if you’re a qualified borrower. They include your current income, your recent tax filings, bank statements, and how long you’ve worked at your job.
On a mortgage application to balance out a poor credit score, you can list assets such as money in your checking and savings accounts, retirement funds, stocks, bonds, CDs, and other investments. It will give a lender a more complete picture of your financial ‘health’ but it won’t replace a poor credit score.
Poor Credit Borrowers
It’s going to be tough with poor credit to get a home loan and lock in a decent rate. Tough, but not impossible. The most important thing to remember is that you shouldn’t jump on a loan with terms that will make it more difficult for you to pay the money back, which will increase your chances of default, foreclosure, and even bankruptcy.
Bankrate and many other consumer financial services remind borrowers it can take weeks to resolve small issues with your credit, and months or even a year to improve your score overall.
With that in mind, here are some steps to improve your credit:
- Start by paying down (and eventually paying off) any delinquent accounts, and do your best to get them in good standing.
- Make a schedule of when your bills are due, and then make your payments on time each month.
- Leave any existing credit accounts open, even if you aren’t using them.
- Don’t open any new credit cards, which will result in a ‘hard inquiry’ on your credit report and potentially lower your score.
Credit scores range from 300 to 850, with 300 to 579 ranking as ‘very poor.’ If your score is below 500, there’s very little chance you’ll qualify for a mortgage on your own. Even with a score above 500, a government-backed loan might not even be an option. To fall into that category, you’ll probably need a score of 580 to 669 or better.
According to a May 2020 report from software company Ellie Mae Inc., only 6% of mortgage loans for the month went to borrowers with a credit score between 600 and 650. Less than 1% went to those with a score under 650. That means you need to do what you can to resolve credit issues if you’re serious about learning how to buy a house with low credit.
Steps to Take for a Bad Credit Mortgage
As we mentioned above, qualifying for home financing with bad credit means you’re taking on a loan that will likely be difficult to pay back. Before you commit yourself to what is essentially a subprime loan (or a loan offered to otherwise non-qualified borrowers at a higher interest rate), there are steps you should take to avoid that situation:
- First and foremost, shop around. You should have conversations with as many lenders as possible to determine which ones might offer better financing and are willing to work with high-risk borrowers.
- Consider programs typically used by first-time buyers. These are products out there (detailed below) designed to address various situations borrowers encounter, including obtaining a mortgage with bad credit.
- Ask a co-signer to put their name on the mortgage if you can’t qualify on your own. Just beware that the co-signer is entering into a binding contract and will be obligated to repay the loan if you default, so consider their responsibility (and your own) before asking someone to make that commitment.
- Make a more sizeable down payment if you’re able to. This might take some of the weight off your credit score and lower your debt-to-income ratio (or the amount of the mortgage against the value of the property), but it’s not a guarantee you’ll automatically be seen as a more qualified buyer.
Poor Credit Programs For You
If you’re a low credit homebuyer, there are programs and services available including those from the Federal Housing Administration (FHA), United States Department of Agriculture (USDA), Veterans Administration (VA), and more to consider. You might also benefit from a Fannie Mae HomeReady mortgage or Freddie Mac’s Home Possible plan. There are guidelines and requirements for each of these programs, but they could be a tremendous help for those needing assistance.
Since 1934, the FHA has assisted millions of homebuyers and is incredibly popular due to its flexibility in working with those who would not otherwise qualify for a loan. In fact, the FHA handbook specifically states that a lack of credit history cannot disqualify a buyer outright. Instead, it says that lenders must consider an overall pattern of credit behavior and can use alternative credit lines (such as utility bills and rent payments) to help establish a borrower’s risk and ability to pay back the money.
If you’re interested in applying for an FHA loan, you’re required to have a minimum credit score of 580 to qualify for a mortgage with a lower down payment of 3.5%.If your credit score is below 580, you’ll be required to put down at least a 10% down payment to qualify for a loan.
USDA or VA
The USDA offers the Single-Family Housing Guaranteed Loan Program, designed to assist the lender (not the buyer) with providing loans for decent, safe, and sanitary dwellings in eligible areas. Potential homeowners must meet a bevy of criteria to qualify for this loan, including a 640 credit score and income eligibility, but the rules are fairly straight-forward. Applicants have to be U.S. citizens or Qualified Aliens, agree to occupy the home as a single residence, and demonstrate a willingness to meet payment obligations.
VA loans are generally only for qualified U.S. veterans and their spouses, or the surviving spouse of a veteran. A VA-backed loan can remove some of the financial hurdles of homebuying, eliminating the need for a down payment and offering better interest rates than loans from banks or mortgage companies. There is also no need for private mortgage insurance (PMI) or mortgage insurance premiums with this loan.
Fannie Mae and Freddie Mac
The Fannie Mae HomeReady mortgage is geared toward those deemed to be credit-worthy, but low-income. Typically, these are first-time homebuyers with limited means to make a down payment, but with a credit score greater than or equal to 620. First-time buyers through this program are required to take a homeowner’s education course.
The Freddie Mac Home Possible mortgage is of similar structure to the Fannie Mae product, but buyers should have a credit score of at least 660. It maximizes credit flexibilities among borrowers and helps those with low-to-moderate income reach their goal of owning a home. One of its main selling points is being a low down payment solution allowing borrowers to have flexible sources of funds to make a down payment.
Beyond these programs, first-time buyers with low incomes might be eligible for down payment assistance or grants to cover closing costs. A list of state programs is available through the HUD website, and buyers can also inquire through their city or county for assistance programs. If a buyer qualifies for one of these programs, it might make buying a home with poor credit less difficult.
The Big Decision
Every homebuyer looking to obtain a mortgage is in a unique situation and may or may not be eligible for financing. Accepting a mortgage loan under any circumstances is a massive financial obligation that will likely affect you for 30 years or more. No matter what, it will be an extremely heavy burden if your debt isn’t under control.
If your financial situation allows it, consider getting a personal loan designed to consolidate outstanding debt before applying for a mortgage. This will improve your credit and ultimately help you qualify for a mortgage when the time is right. What’s more, a positive payment history can help keep you on the right track as a homeowner, leaving you on solid ground to manage recurring costs and ultimately build equity in your home.
- Check Your Credit Report, Federal Trade Commission, Consumer Information. Accessed at https://www.consumer.ftc.gov/articles/0155-free-credit-reports
- MyFICO, What’s in my FICO Scores? Accessed at https://www.myfico.com/credit-education/whats-in-your-credit-score
- Bankrate, Low mortgage rates increasingly inaccessible for poor credit score borrowers. Accessed from https://www.bankrate.com/mortgages/poor-credit-borrowers-shut-out-from-low-mortgage-rates/
- Ellie Mae, May 2020 Origination Insight Report. Accessed from https://static.elliemae.com/pdf/origination-insight-reports/EM_OIR_MAY2020.pdf
- My Mortgage Insider, Cosigning a Mortgage for an Adult Child. Accessed from https://mymortgageinsider.com/co-signing-a-mortgage-for-an-adult-child/
- FHA.com, Credit Requirements for FHA Loans. Accessed from https://www.fha.com/fha_credit_requirements
- HUD, Borrower Credit Analysis. Accessed from https://www.hud.gov/sites/documents/4155-1_4_SECC.PDF
- USDA, Single Family Home Loan Guarantees. Accessed from https://www.rd.usda.gov/sites/default/files/fact-sheet/508_RD_FS_RHS_SFHGLP_0.pdf
- U.S. Department of Veterans Affairs, Purchase Loans. Accessed from https://www.va.gov/housing-assistance/home-loans/loan-types/purchase-loan/
- Fannie Mae, HomeReady Mortage. Accessed from https://singlefamily.fanniemae.com/originating-underwriting/mortgage-products/homeready-mortgage
- Freddie Mac, Home Possible. Accessed from https://sf.freddiemac.com/working-with-us/origination-underwriting/mortgage-products/home-possible