The information provided on this website does not, and is not intended to, act as legal, financial or credit advice; instead, it is for general informational purposes only. Information on this website may not be current. This website may contain links to other third-party websites. Such links are only for the convenience of the reader, user or browser; we do not recommend or endorse the contents of any third-party sites. Readers of this website should contact their attorney, accountant or credit counselor to obtain advice with respect to their particular situation. No reader, user, or browser of this site should act or not act on the basis of information on this site. Always seek personal legal, financial or credit advice for your relevant jurisdiction. Only your individual attorney or advisor can provide assurances that the information contained herein – and your interpretation of it – is applicable or appropriate to your particular situation. Use of, and access to, this website or any of the links or resources contained within the site do not create an attorney-client or fiduciary relationship between the reader, user, or browser and website owner, authors, contributors, contributing firms, or their respective employers.
If you’re tired of throwing away your hard-earned money on rent each month, you may be ready to buy a home of your own and begin building equity. Unfortunately, buying a home can be a challenge when you have bad credit. You may be plagued by mortgage denials and high-interest rates if approved for a mortgage loan. But before you decide to be a lifelong renter, know that there are ways to achieve your dream of home ownership.
Mortgage lenders look at a lot of factors to determine if you qualify for a home loan. Of course, your annual income and debts are crucial, but your credit score is also a significant factor. Applicants with great credit scores-750 or higher-have the easiest time not only getting approved for a mortgage but also getting approved for the most competitive interest rates available. Applicants with credit scores below 650 may have a difficult time getting approved for a mortgage in general, let alone securing low prime interest rates.
For a mortgage lender, applicants are a calculated risk. Lenders perceive those with higher credit scores as a lower risk of foreclosure or defaulting on their home loans. As a result, people with high scores can get a lower interest rate and more favorable terms on a loan. Unfortunately, those with bad credit scores are automatically perceived to be a higher risk and—if they can get a loan—end up paying higher interest rates and having to agree to less appealing terms that come with a bad credit mortgage.
If you have poor credit—a score of 650 or below—or bad credit—a score below 600—there are programs, such as Federal Housing Administration (FHA) loans that are specifically made for those who need help buying a home with bad credit.
FHA loans have some of the most lenient qualification requirements there are. And they’re available to any homebuyer, not just first-time buyers. Borrowers with a credit score of at least 580 stand a chance to get approved as long as they have a minimum 3.5% down payment. That’s just $8,750 for a $225,000 home. And, unlike other loans, FHA loans may not require two years of employment as a qualification. FHA loans also have a maximum loan-to-value ratio (LTV) of 96.5%, which accounts for the lower 3.5% down payment requirement.
Veteran’s Administration loans are available to military veterans. They require a credit score of 620 or higher. A VA loan:
The United States Department of Agriculture (USDA) offers mortgages to home buyers in eligible rural areas whose incomes fall in the low-to-average income range for their areas. Like VA loans, they require a credit score of 620 or higher. A USDA mortgage loan also:
In addition to FHA, VA and USDA loans, there are ways to increase your chances of getting approved for a mortgage with bad credit. Consider saving up for a larger down payment. A larger down payment reduces the amount you need to borrow and increases your likelihood of getting approved for a mortgage. If you’re able to put down 20% or more on your new home, you’ll save a significant amount on your interest down the road because you’ll borrow less money.
You may also be able to avoid the need for Private Mortgage Insurance (PMI) with a higher down payment. Bypassing the need for PMI can easily save you $1,000 per year or more. It also frees up more money, so you can pay down other debts, which improves your credit.
If you’re thinking about trying to buy a home in the near future, the first step you should take is finding out where your credit stands. Begin by looking at your current credit report and carefully reviewing it. Specifically, be on the lookout for any mistakes or errors on your report.
If you notice something incorrect on your report, you can file a dispute—most credit bureaus let you to easily file a dispute online and get it resolved before you continue the home-buying process. You should also take the time to calculate how much of a mortgage you can reasonably afford before applying for one.
You want to avoid having to accept a much higher interest rate and having to put up a larger down payment. If your score falls below 620 and you’re not eligible for an FHA, VA or USDA loan, you might have issues finding good mortgage interest rates.
If you’re not sure what your credit score is, you can see your credit score for free on Credit.com. You also get a free credit report card that shows you ways to improve your credit score in each of the five areas that factor in to how your score is calculated.
Even though you have a lower credit score with less-than-perfect credit, it’s still possible to secure a mortgage loan, but you should expect to pay higher interest rates.
A borrower with subprime credit may also have to pay a much higher down payment than someone with a better credit rating. By putting down a larger down payment, you show the lender that you’re willing and able to pay the monthly payment. When you invest more of your money, the lender sees that you’re serious about purchasing the home and keeping the home.
If you want to avoid the larger down payment and higher interest rates, it’s best to begin the credit rebuilding process before you apply for a mortgage loan. Paying all your bills on time can improve your credit and begin to build a more positive credit history for you. Paying down debt to secure a better credit utilization ratio is also recommended to boost your credit score. The lower the total amount of debt you owe, the better and higher your credit score is.
Buying a home with bad credit isn’t impossible. If you take advantage of the home loans that are available to you and do enough research to know you’re getting the best interest rates, you’ll be able to buy a house and possibly build your credit while paying your mortgage.
This article was last published January 20, 2017, and has since been updated by another author.
Comments on articles and responses to those comments are not provided or commissioned by a bank advertiser. Responses have not been reviewed, approved or otherwise endorsed by a bank advertiser. It is not a bank advertiser's responsibility to ensure all posts and/or questions are answered.
Please note that our comments are moderated, so it may take a little time before you see them on the page. Thanks for your patience.
Try ExtraCredit for free
Over $100 of value. Cancel anytime.
Credit.com receives compensation for the financial products and services advertised on this site if our users apply for and sign up for any of them. Compensation is not a factor in the substantive evaluation of any product.