Wrong. In spite of what you've heard, there is hope.
By "credit," of course, we mean your credit score—that all-important numerical representation of your track record of paying off past debts, covering everything from your credit card to college loans. Mortgage lenders check your credit score to gauge how good you'll be at paying themback, too, and a low credit score can definitely work against you.
According to a national survey by Experian, one-third of prospective home buyers are afraid that their poor credit score might hurt their ability to purchase a home. Meanwhile, 45% of people polled say they've decided to delay home buying until their credit score improves, with 1 in 5 believing they'll have to shelve the idea for at least five years.
Is this true? Exactly how bad is bad, anyway? We'll set you straight below, and offer some guidance on how to get a mortgage with poor credit... or at least some direction.
How to check your credit scoreBefore you can explore your loan options, you need to assess what shape your credit is really in, says Todd Sheinin, a mortgage lender and chief operating officer at New America Financial in Gaithersburg, MD. For starters, credit scores range from 300 to 850, and are calculated based on the following factors:
- Payment history: 35%
- Debts owed: 30%
- Length of credit history: 15%
- Types of credit you have: 10%
- Applications for credit: 10%
You can request the reports through AnnualCreditReport.com. However, your credit report only shows your credit history; to see your actual score, you’ll need to pay a small fee directly through the credit bureaus’ websites. (Alternatively, you can get a free estimate of your score through Credit.com, CreditKarma, or CreditSesame.)
If your credit score is 760 or above, you’re considered a low-risk borrower—meaning you’re likely to get the best interest rates and terms when you apply for a loan. Meanwhile, a good score is from 700 to 759, a fair score is from 650 to 699, and credit scores below 650 are deemed poor.
If your credit score is below 650, you may want to step back and take a few months to raise your score. But if you’re looking to buy a home right away, you do have options.
Option 1: FHA loanIf your credit is in rough shape, you might still be able to qualify for a Federal Housing Administration loan. Because FHA loans were created for low- and moderate-income households that would otherwise be locked out of the housing market due to subpar credit, qualifying credit scores start at 580 and up. Another bonus: FHA loans let you make a down payment as low as 3.5%.
The downside? Because FHA loans are government-insured, borrowers must pay an upfront mortgage insurance premium. Currently the fee is 1.75%—that’s $5,250 on a $300,000 home loan. Borrowers will also have to pay annual mortgage insurance, currently around 0.85% of the borrowed loan amount—or $2,550 more per year. Also, FHA loans are usually capped at $417,000. (In certain high-cost areas, the limit is $625,000.)
Option 2: VA loanActive and retired military are eligible for the VA loan offered by the U.S. Department of Veterans Affairs. Not only do they accept credit scores of 620 and below, but they require no down payment andno mortgage insurance premium—all at decent interest rates.
“Because interest rates are fixed on VA loans, they’re not based on the borrower’s credit score,” Miller says. In other words, having crummy credit won’t prevent you from qualifying for a great rate.
Option 3: 15-year fixed loanGood news: Most conventional loans only require a minimum credit score of 620, based on Fannie Mae and Freddie Mac guidelines. However, "if you have a 620 credit score, you're going to pay a higher interest rate," says Heather McRae, a senior loan officer at Chicago Financial Services. But there is one interesting exception.
"If you get a 15-year fixed loan, the lender will essentially turn a blind eye toward your credit score with respect to what interest rate you get," says McRae. In other words, for a 15-year fixed loan, you would qualify for the same interest rate whether you have a 620 or a 750 credit score.
Granted, you will still need to meet other requirements in terms of your income, down payment, and other factors. Essentially, you'll need a solid salary and plenty of cash upfront. Still, it's a great option if your past credit issues are haunting you, while your present circumstances are solid and scream "All systems go!"
Option 4: A bigger down paymentSome mortgage lenders might be willing to approve you for a home loan if you make a larger-than-usual down payment. Why? Because "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 bear in mind your credit score can still negatively affect your loan's interest rate.
Please consider The Myers Team your resource for all things real estate. We have over 30 years of real estate experience, specializing in the Montgomery County area. If you are refinancing, want a recommendation, need a service provider or just have a home related question, please give me a call at 301-910-9910 or email me at email@example.com.