Home-ownership in America is at the lowest point in decades, as many people are struggling with low credit scores after the recession. Many people may wonder if they will ever be able to become a homeowner. Learning how to buy a home with bad credit is essential for people with past credit issues who are also tired of renting. Actually, there are options available for people with bad credit to buy a home.
Several years ago, it was much more difficult to secure a home loan with bad credit. But today, lending standards have relaxed somewhat, as the US government is trying to get the housing market back on firm footing.
If you are considering buying a home with bad credit and you are saddled with low fico scores, you do have hope. Even if your current score is poor, such as below the 600’s or worse, you may not be barred from buying a home at all.
Just as important as your score is the circumstances surrounding the score. If you had a foreclosure two years ago but have since been paying your bills on time, you may be able to still buy a home. As long as you are able to show a lender that you can afford the loan to get approved for bad credit home buying and are financially stable, all is not lost.
To increase your chances of buying a home with bad credit, try these five secrets:
Save More for Your Down Payment
If you have a credit score below 580, you have to have more for your down payment. Plan on at least 10% down.
However, if you have a credit score higher than 600, you could be able to get a loan with a lower down payment. But you will be able to score a lower interest rate if you put more money down. If you put down 5%, 10% or even 20%, you will be able to get a quite competitive interest rate.
The way the lender sees it is, the more money you have in the deal, the less likely you are to default.
Consider FHA When Buying a House with Bad Credit
One of the best loan programs for people with bad credit is the FHA mortgage. FHA loans are guaranteed by the Federal Housing Administration. So if you fail to pay your loan, the FHA will pay back your lender.
That guarantee means a lot to lenders; they are willing to extend credit to relatively poor risks because their risk exposure is limited.
If you have a credit score in the 620s’, you may be able to get an FHA insured loan and put down only 3.5%. And if your score is in the 640’s or higher, you almost certainly can get a loan with that low of an interest rate.
FHA programs also have a low interest rate; it could be lower than market rates. Again, this is because the loan is backed by the Federal Housing Administration. Buying a home with bad credit is a genuine possibility if the applicant meets the FHA requirements.
Keep in mind that FHA itself does not issue loans; it merely guarantees the loan to FHA-approved lenders.
Know What to Stress to the Lender
Lenders today usually use automated underwriting to do their loans. But if you have bad credit, you may need to have a human being work on your loan from the start. That’s fine; manual underwriting can work if you have bad credit; you just need to show the underwriter that your bad credit score is not the most important part of your file.
In many instances, a bad credit mortgage loan could be approved if the applicant shows a trend of good payments over a noticeable period. You need to gain the trust of the underwriter if you want any chance of them approving financing so you can buy a home with bad credit.
Try to emphasize the good in your application. For example, if you have made on time rent payments for the last 12 months, you should get a letter from your landlord pointing this out.
Also, if you have a good level of savings, show proof of that to your underwriter. Also try to have on time payments for all of your bills in at least the last year. Even if you have poor credit from unpaid bills or foreclosures in the past, your recent history counts more.
It also is a good idea to have a low amount of credit card debt so you look like you are now financially responsible.
The key thing to remember is that a low credit score alone will not sink your application. But a low credit score combined with high debt, lots of missed payments and no savings will most likely prevent you from purchasing a house. There are still lenders that actually specialize in helping people with a less than worthy scores, so don’t be afraid to ask the company if they have a plan to show you how to buy a home with bad credit.
Get an Owner Financed Deal
There will be cases where your credit is too bad or too un-established to qualify for a mortgage loan. In that case, you can try to get a private lender to work with you. Most often, the private lender is a landlord who has a property he wants to sell but has not been able to get the price he wants.
In this situation, you may be able to get the landlord to write you a private mortgage; this is called owner financing or seller financing. It works just like a regular mortgage. You will put down a certain amount of money, often 10%. And the landlord will write you a mortgage note with similar terms to a regular mortgage.
You can set up a 15 year or 30 year mortgage if you like. Expect to pay well above market interest rates due to the higher risk for the lender. But the good news is, if you pay the loan on time, you may be able to refinance out of the seller financed note and get a regular mortgage in two or three years.
But remember, you need to get your credit cleaned up in the meantime. And make sure the loan does not have a pre-payment penalty. Even if you successful in buying a home with bad credit, you will want to be able to refinance the loan eventually with a regular lender when your credit improves.
Too many people think today that having poor credit will prevent you from getting buying a home with bad credit scores. It is true that if you don’t have 740 credit and 20% down, you will not get as favorable lending terms. But there are many options available out there today for people to find a solution for buying a home with bad credit. You may need to shop around more, but bad credit house loans are available for most borrowers that have strong credentials beyond the score published by Tran Union, Equifax and Experian.
How to Buy a Home with Bad Credit and a 10% Down Payment
Many Americans dream of owning their own home, but think they can’t because of their bad credit.
There are only a few options with a subprime mortgage and a FHA loan for people with low credit scores but have the money to come up with a 10% down-payment. Yes 10% down FHA loans are insured by the Federal Housing Administration; this simply means if you don’t pay your mortgage, the FHA will pay back your FHA-approved lender for the principal on the loan.
This is a very important service because the guarantee ensures that more people with bad credit will have the opportunity to buy a home. This is great news, because some buyers may be able to buy a home with a minimal down payment.
If you have a credit score of at least 580, you can get an FHA loan with only a 3.5% down payment in many cases. This is a pretty amazing feature of FHA loans. But if you have a credit score under that, you still are not out of luck!
In such a case, you would need to put down at least 10% if you have a credit score from 500 to 579. So, many people can buy a home with a 10% down payment with a very bad credit score. This makes buying a home so much easier!
How Subprime and FHA Loans Work for Bad Credit
FHA home loans are unusual because FHA itself does not set a lower limit for a credit score. However, FHA-approved lenders do set minimums based upon the parameters of their investors; this is known as lender overlays. Lender overlays just mean the way in which FHA approved lenders set up more requirements and higher minimum scores for potential borrowers.
As noted above, you have to have at least a 580 FICO score to qualify for a 3.5% down payment. It is 10% for anything under that. But you should know that not every lender is going to green light the application for bad credit applicants. Some lenders have different overlays than others.
As noted earlier, you will find more low credit home buying options available to you if you have a credit score from 620 to 680.
Lender Overlay Overview
Other than your actual credit score, the lenders will look at the following features regarding your FHA loan application:
- Credit history: You don’t need a certain score per FHA (unless it’s 580 to get a 3.5% down payment, remember), but lenders may have their own that vary. They also will look at your current payment history and see if you look more or less stable than in the past.
- History of employment: FHA does not require you to be in a job for an exact period. Lenders however can mandate that your employment be the same for at least six months at one location or company.
- Collections: FHA does not mandate that accounts in collections be paid, but lenders may.
- Debt to income ratio or DTI: Your DTI according to FHA can be above 43%, but most lenders won’t do it. This means that your total monthly credit obligations cannot exceed 43% of your gross monthly income.
Why Lenders Use Overlays
FHA approved lenders want to loan you money, but they use overlays that are stricter than FHA for several reasons:
- Protection: If a lot of home owners don’t pay, lenders and brokers have to deal with the wrath of FHA, and that gets very expensive.
- FHA approved lender: Being approved by FHA to lend makes lenders money. They do not want to risk that.
- Lenders and broker revenue: Losing FHA approved lender status means brokers can lose a lot of commissions.
However, note that FHA in 2017 has enacted all new credit score policies that will reduce the number of lender overlays. Now there are three credit score brackets:
- 640 and below
- 640 to 680
- 680 and more
FHA approved status may not be lost if other lenders in the area are having about the same performance on defaults as others in their bracket. FHA lenders also can reduce overlays now without fear that FHA will take away their approved status.
Restrictions Are Still in Effect
There are some restrictions to buying a home with an FHA loan, even with all of the flexibility:
- Bankruptcy: Actually you can get a subprime mortgage insured by the FHA with a Chapter 7 bankruptcy, but you will have to wait 24 months after the final settlement of the bankruptcy. In limited circumstance, you may be able to get an FHA loan after a mere year! But in either case, you must show that you are back on track financially and have been making steady payments on your credit obligations if you have nay.
- Foreclosure: A foreclosure does not preclude an FHA loan. Expect to have to wait 24 to 36 months, however. You may need to provide a letter that explains why the foreclosure happened.
- Late payments: Late payments can be ok, if your overall credit profile in the last year shows that you are being responsible. If you lost your job and had some late payments, FHA still may give the green light if you can show you have a good steady job today.
- Liens: However, if you have a federal tax lien or are delinquent on student loans, you are not eligible for FHA financing. If you have set up a payment plan with the IRS or other federal government agency, you still may qualify.
- Credit: FHA is about as forgiving on credit as can be. But if you have under a 500 FICO score, you are not able to get a home loan insured by the FHA. Get your score above 500, and ideally, above 620, and you will have many more options.
Even with the above restrictions, many bad credit home owners are able to buy a home with a 10% down payment if they have a credit score of at least 500. This is a great deal for bad credit home buyers!