June 20th, 2017 9:01 AM by MARGARET MICHELLE WILLIAMSON
Buying a home typically requires getting a mortgage—and rest assured, lenders prefer lending money to people with a proven track record paying off debts. The reason: This bodes well that they’ll get their cash back, too. That’s why lenders check your credit score, which sums up how well you’ve handled your credit cards, college loans, and other financial obligations.
A good credit score means you’ll get a great mortgage. A bad credit score means you’re in trouble, but not that you should just throw in the towel. Check out this crash course on how to buy a home with lousy credit. Yes, it can be done.
First things first: While you may have a vague sense your credit score is bad, that’s not enough. How bad is it, really? Ideally, you should check your credit report long before meeting with a mortgage lender. Your credit score is based on the information that appears on this report, and you’re entitled to a free copy of your report from each of the three major credit bureaus (Equifax, Experian, and TransUnion) at AnnualCreditReport.com.
Credit scores, also called FICO scores, range from 300 (god-awful) to 850 (perfection). If your score is 740 or higher, “you’re in the top tier” and positioned for the best interest rates and the most attractive loan terms, says Todd Sheinin, mortgage lender and chief operating officer at New America Financial in Gaithersburg, MD.
A good credit score is from 700 to 759. If you fall below that range, lenders will start to question whether you’re a risky investment.
“If your credit stinks, you’re at an immediate disadvantage and may have trouble qualifying for a home loan,” says Richard Redmond, a mortgage broker at All California Mortgage in Larkspur and author of “Mortgages: The Insider’s Guide.” So, what next?
If your credit report is subpar, that’s no reason to beat yourself up (at least not immediately), because you may not even be to blame for all those blemishes. Creditors frequently make mistakes when reporting consumer slip-ups; in fact, one in four Americans finds errors on credit reports, according to a 2013 Federal Trade Commission survey.
So make sure to scour your credit report for slip-ups that aren’t your own. From there, you’ll need to contact the organizations that provided the erroneous info (e.g., a bank or medical provider) and have them update it. Once that’s done, your credit score will rise accordingly.
And as for any mistakes that are your fault? If they’re one-time mistakes, it never hurts to call and ask that they get removed from your record.
The only fix for major mistakes, however, is time. Make payments by their due date, and you will gradually see your credit score rise. Just don’t expect this to happen overnight.
Depending on your credit score, you might still qualify for a conventional loan—but you should expect to pay a higher interest rate, says Sheinin. Getting a mortgage with a higher rate means you’ll pay more money in interest over time, of course, but it at least enables you to purchase a home.
With interest rates at record lows (check yours at realtor.com/mortgage/rates/), it could make sense to buy now and take the higher rate, because it’s not that high in the grand scheme of things.
A Federal Housing Administration loan is one option for prospective home buyers with poor credit. You’ll need a minimum 580 credit score (and other requirements) to qualify, but FHA loans also enable you to make a down payment as low as 3.5%. The big drawback? Because the federal government insures these loans, you’ll pay a mortgage insurance premium, which is currently assessed at 1.75% of the base loan amount.
If you have poor credit but also have a lot of cash saved up, some mortgage lenders might be willing to approve you for a home loan if you make a larger than usual down payment.
“The more you put down, the more you minimize the risk to the lender,” says Sheinin. So, by increasing your down payment to 25% or 30% on a conventional loan—instead of the standard 20%—you’ll strengthen your mortgage application. Just remember that your subpar credit score can still negatively affect your loan’s interest rate. Still, though, the chance to own your own home may outweigh those downsides any day!
Written by: Daniel Bortz