A home is an essential aspect of the American Dream, but it is often a dream for those with credit issues. The thought of being shackled by a low credit score may make you believing that the goal of owning a home is not possible.
But here’s the twist: a low credit score will not shut the door to your dream home. It may cause some obstacles to the process however, the way to homeownership is far from being erased.
In this piece, we’ll attempt clarify the process and outline how you can help make your dream of homeownership possible even with poor credit. So, buckle up and get ready for an in-depth dive into the realm of mortgages, credit scores and the enthralling possibilities that are waiting for you.
10 Steps to Buy a House With Bad Credit
A bad credit score doesn’t necessarily indicate a negative response to homeownership. It just means that a more calculated approach is needed. From analyzing your credit score and boosting your score to exploring various options for mortgages and contemplating the possibility of a bigger down payment, there are a variety of actions you can take.
Let’s start this journey with you, assisting you realize your desire to own the home of your dreams into a attainable reality, regardless of your credit rating.
1. Know Your Credit Scores
What are your credit scores? Are you aware of the factors that cause you to have low credit? Or do you think that it’s due to past financial mistakes?
What is a “bad” credit score?
What is a poor credit score? The ranges generally are as the following:
- Excellent: 781 and above
- Good: 661-780
- Fair: 601-660
- Poor: 501-600
- Bad: 500 and below
If your credit score falls to 600 or less you’ll fall into the subprime consumer category.
How Your Credit Scores are Calculated
You must also be aware of how your credit score calculated so that you be aware of how you can improve it prior to applying. The five elements are as they are:
- History of payments (35%): Do you pay on time to your creditors every month? If you’ve fallen behind on installments in the past then your credit score might be in decline. In addition, other past-due accounts that were later turned into collection accounts can have a negative impact on your payment history.
- Amounts owed (30%): How much do you owe creditors? If your debt-to-credit-available or the credit utilization ratio for the revolving account is excessive, it may affect your credit score.
- Credit history length (15%): How long have you been credit-worthy? A more solid credit profile could translate to an greater FICO score.
- Credit mix (10%): Do you have a balanced mix of credit that is revolving as well as installment credit? The lenders prefer a mix of both, and having more than one but not the other may lower your credit scores.
- New credit (10%): Have you recently opened a number of new credit accounts? If so, potential lenders might see you as a higher risk.
How to Check Your Credit Score
There are a variety of free options to select from. But, you can begin by contact your bank to determine whether it’s a service offered to account holders for free. If you’re using credit cards look up your statements or the online dashboard for any indication that it could be there.
Have you recently applied for a mortgage but were rejected? The lender has to explain their decision in a letter and state that you may request an account of the credit report used in making the decision.
In certain instances the denial letter may provide the reasons for the denial along with the credit score that the lender used in the process of evaluating. The lenders use different credit scoring algorithms and models. However you can make use of this figure as a reference point.
2. Rectify Errors in Your Credit Report
According to the findings of an study conducted by the Federal Trade Commission (FTC), 20% of credit reports have mistakes. What is the reason for this? What’s on your credit report is what determines your score. There’s a chance that an error could lead to an unsatisfactory credit score and make it difficult to obtain the mortgage you need.
Therefore, you’ll need to take an report for free and go through the report from top to the bottom. If you notice any mistakes follow these steps to correct them:
- Step 1: Print an original copy of your credit report. mark the items you are concerned about.
- Step 2: Write an official letter of dispute to send to credit bureaus. For templates, click here.
- Step 3. Send the letter along with the highlighted copy of your credit report along with any other supporting documents to the credit bureaus.
- Step 4: Follow up in writing to the credit bureaus within 30 days if haven’t received a reply.
If you require assistance in resolving errors on your credit report check out this complete document provided by the FTC.
It may take some time before credit reports reflect the changes caused by disputing the errors. Therefore, you should fix your credit at a minimum of a few months prior to you apply to get a mortgage. This way, you will make sure that any positive changes you make will be able to build your credit score.
What if everything is accurate?
It’s possible that a string of financial mistakes or an unfortunate event caused your credit to be in a mess and the consequences are still lingering. If this is the case, contact the creditors and ask that they erase the negative mark off your credit report, in exchange for an agreement to settle the account that is at issue.
This is known as a pay-for-delete arrangement and can be a boon to your credit score if the creditor is willing to sign it. However, make sure you have the agreement written.
If the account is listed as a collection item paid This method will not be effective since the account is already paid off.
You can also write an email to the creditor describing your situation and request that they accept an goodwill adjustment to be accepted for mortgage. It is possible that you will not be successful using either method initially, but a consistent approach can pay off.
3. Run the Numbers
Consumers who qualify for mortgage loans with poor credit can have a higher price. Why is this? It’s all a matter risk.
The mortgage lender would like to be protected in the event of a default on the loan and the house is put in foreclosure. So, if you’re determined about getting a mortgage despite having bad credit, prepare for the financial ramifications.
To illustrate, assume you’re seeking a 30-year fixed-rate mortgage for $250,000. Here’s an example of how these figures could be interpreted in relation to your creditworthiness:
| CREDIT SCORE | MONTHLY PAYMENT | INTEREST PAID OVER LIFE OF LOAN | TOTAL COST OF LOAN |
|---|---|---|---|
| Excellent Credit | 4% | $179,674 | $429,674 |
| Good Credit | 5% | $233,139 | $483,139 |
| Fair Credit | 6% | $289,595 | $539,595 |
| Poor Credit | 7% | $348,772 | $598,772 |
And these numbers don’t take into account homeowner’s insurance, property taxes as well as private mortgage insurance (if you make a downpayment of less than 20%).
The good news is that you can refinance your loan later in the event that your credit rating and financial condition improves.
4. Consider an FHA Loan
A FHA loan is a fantastic option for those looking to purchase a home with poor credit. These loans are offered by private lenders however the loan is insured by the Federal Housing Administration. This guarantees the mortgage lender from borrowers who eventually fail to pay their mortgage.
FHA loans have lower requirements, so they are more attainable to obtain than conventional mortgages. But, FHA loans tend to have higher rates of interest and closing costs than conventional mortgages.
FHA Loan Requirements
However there are some requirements you’ll have to meet:
- You require a minimum credit score of 580.
- You must have proof of a stable monthly income.
- If your credit score is 580 or higher, you’ll need a minimum down payment of at least 3.5%.
- If your credit score is 500 or higher you’ll need a minimum down payment of at least 10%.
- The property you’re buying must be your primary residence.
There are additional conditions you’ll need to be able to meet in order to qualify to receive the FHA loan. The loans are limited to an amount, but this will differ based on the area you live in.
You’ll also need to deal with an FHA approved lender and pay private mortgage insurance (PMI) which will increase your monthly payments.
5. Consider a VA Loan
If you’re a veteran with poor credit and you’re in need of a loan, you might be eligible for the VA loan. VA loans are offered via private lenders however the mortgage is insured by the U.S. Department of Veterans Affairs.
The program was designed to help veterans to get back on their feet. It has been a lifeline for a lot of struggling veterans. Additionally, VA loans offer many benefits.
There is no requirement for a down payment and you don’t have to pay for PMI. There is also no requirement for a minimum credit score. The rates of interest are attractive, and it’s simple to get the VA loan.
VA Loan Requirements
However there are some requirements you’ll have to meet first:
- Active duty military or a veteran who was honorably discharged.
- You’ve served for at least 90 consecutive days during active wartime.
- You’ve served for at least 180 consecutive days during active peacetime.
- Six years plus of service in the National Guard.
If your spouse was killed in the line of duty, you may be eligible to be eligible for the VA loan program too.
6. Consider a USDA Loan
The USDA typically provides these no-down-payment mortgage loans to rural areas as well as suburbs with lower density. To be eligible to receive an USDA loan, applicants must meet the income requirements that are based on the size of their household and their county’s median income. Also, they must possess an average credit score of 580.
7. Explore Other Lending Options
If you’re not eligible to receive FHA or VA loans, you could think about other lenders. Loan aggregators such as Lending Tree are a great way to determine if you are eligible for conventional loans.
Lending Tree won’t give you the money, but it will connect your needs with mortgage companies who are willing to cooperate with you. It takes only some minutes to sign on the site of the company and you’ll be able to get mortgage proposals from several lenders.
If you’ve banked with the same bank for a prolonged duration, you may also think about applying for a loan there.
Banks typically have stricter lending standards However, they may even consider an unsecured loan in light of your long-standing relationship with them. At a minimum it’s a good idea to give it a shot.
8. Save Up for a Down Payment
The lenders might be reluctant to allow you to purchase a home even if you have bad credit. And the greater the loan amount, the higher risk they’ll be required to take on.
It’s more likely you’ll be approved if make a substantial down payment, as the amount of loan will be less. Additionally you’ll save money on interest.
So how much do you need to put aside for a downpayment? The minimum of 20% for conventional loans can be a great base however, the higher the more favorable. (Plus you might be able to get the mortgage insurance).
It’s recommended to keep as much cash saved in your savings accounts as you can. This will show lenders that, despite having low credit, you are able to handle crises in your finances or take care of any unexpected financial events as they occur. There is no need to put away a whole year’s income in a bank, but a period of three to six months is sufficient.
9. Go Rate Shopping
Are you worried about your credit being impacted when you apply to multiple lenders? Don’t be. According to myFICO, “inquiries for mortgage loans generated in a 30-day window count as a single inquiry.”
If you look around and apply to ten distinct lenders in a period of 30 days your credit will only be affected by one inquiry because FICO scoring models understand that you’re performing a mortgage search.
10. Sign on the Dotted Line
Congratulations! You’ve done your research, saved to pay for a down payment and then shopped around for the best interest rate. Even with your credit problems you’ve put in the effort to purchase the house you’ve always wanted.
If you weren’t as fortunate and discovered that this wasn’t the ideal moment to buy do not fret. Be patient as you work to improve your credit score, and to get your finances in order.
Additionally, ensure that you pay all rent in time to show potential lenders that you’re responsible and able to meet your obligations to your home. This way you’ll be more successful this time.
