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Contrary to popular belief, you may still be able to get a mortgage even if your credit is less than stellar. Borrowers with bad credit can often get mortgage financing through programs tailored specifically for them.
Equally important, credit scores are not permanent, so with a few financial adjustments, you may be able to improve your score and move into a better credit range, which can mean lower borrowing costs when you do close on your loan.
Credit score ranges
Credit scores generally range from 300 to 850, though some scoring systems for auto loans and bank credit cards can stretch from 250 to 900. As a borrower, the rule of thumb is the higher your credit score, the better your interest rate.
The credit scores of many borrowers, however, are not in the highest ranges. In fact, the average FICO score was 711 in 2020, according to credit rating agency Experian. Here’s how credit scores were distributed nationally last year, Experian reports:
- Exceptional: 800-850 – 21%
- Very good: 740-799 – 25%
- Good: 670-739 – 21%
- Fair – 580-669 – 17%
- Very poor: 300-579 – 16%
Even borrowers in the “fair” and “very poor” bands may be able to qualify for mortgage financing. The Federal Housing Administration, namely, has home loan programs designed for borrowers with credit scores as low as 580.
When are credit scores too low to qualify for a mortgage?
There’s no credit score threshold that will definitely disqualify you from getting a mortgage, but the lower your score, the harder it will be to find a lender to underwrite your loan. Lenders generally view applicants with poor credit as more likely to default, which means the lender is less likely to get its money back plus interest. Each lender evaluates loan applications differently, though, and some will make loans to borrowers with low credit scores, while others will simply pass.
How does bad credit affect a home loan application?
Lenders check borrower’s credit scores when deciding whether to approve a loan application and how much interest to charge. Lenders consider other factors, as well, including loan-to-value (LTV) and debt-to-income (DTI) ratios, but credit scores are especially important.
With conventional mortgages, the lowest mortgage rates are reserved for borrowers with excellent credit. Credit scores in the mid-600s or lower may make it harder to qualify for a loan, and those borrowers usually have to pay a much higher interest rate, which means the loan will ultimately be more expensive.
How much extra will a low credit score cost you?
Interest rates for new and refinanced mortgages hit record lows over the course of 2020. The average 30-year fixed mortgage rate was 4.87 percent in November 2019, according to Freddie Mac, but by the start of 2021, interest rates were hovering around 3 percent.
Those record-low rates might not be available to borrowers with bad credit, however. While rates are lower across the board than they were a year ago, applicants with low credit scores should expect to pay more than borrowers with stronger credit.
The table below shows that home loans for bad credit borrowers are significantly more expensive than mortgages for borrowers with good credit. Examples are based on national averages for a 30-year fixed loan in the amount of $248,640 — the national median home price, less 20 percent, according to the National Association of Realtors — using myFICO.com’s loan savings calculator.
Here’s how much you’d pay at rates available at the time of publication, depending on your credit score range:
Total interest paid
How to get a mortgage with bad credit
Bad credit can cost you big bucks when it comes to your mortgage, so it’s especially important to shop around for a good offer if you can’t do much to improve your credit score before you take out a loan.
1. Shop around
Some lenders offer better financing terms than others. You may be able to save thousands of dollars by merely checking with various lenders and locking in a lower rate or paying less in fees.
2. Check for all types of bad credit home loans available in your area
Look for programs widely used by first-time and low credit buyers, such as FHA mortgages (as little as 3.5 percent down), VA financing (zero down), USDA mortgages (zero down), Fannie Mae HomeReady mortgages (3 percent down) and the Freddie Mac Home Possible loan (3 percent down).
3. Find a co-signer
If you have bad credit, you might consider asking a friend or family member with better credit to co-sign your mortgage. The co-signer’s credit will give your application a boost, but the co-signer will then be responsible for repayment of the entire debt, not just a part, if you default. Also, if payments are late or missed, the co-signer’s credit will be damaged.
4. See if you qualify for down payment assistance
There are more than 2,500 down payment assistance programs nationwide to offset down payment costs via grants and credits. You can search by location at DownPaymentResource.com.
5. Look for first-time buyer programs
You may qualify for first-time homebuyer programs even if you have owned property before. In many cases, a “first-time” buyer is defined as someone who has not owned a property in the past three years.
6. Look at a variety of lenders
Traditional brick-and-mortar banks are not the only mortgage game in town. There are plenty of non-bank lenders, online banks, credit unions, community banks, mortgage bankers and mortgage brokers in the industry too, and they all want your business. Let them compete for it and see where you get the best offer.
7. Make a larger down payment
It is possible to have both bad credit and substantial savings. Lenders are often willing to accept a borrower with bad credit in exchange for a larger down payment.
8. Don’t open a new credit card or make a big purchase
A new credit account or big purchase can push down your credit score, so avoid taking on or applying for new debt during the mortgage application process. Wait to take out any new loans until after you close.
7 steps to boost your chances of a mortgage approval
If you want to get a mortgage, a car loan, or just about any other form of financing, the time to improve your credit is before you apply. It can take weeks or longer to resolve credit report issues, and you want to get them straightened out ahead of time so you can get the best possible rate on your loan. Give yourself at least 90 days if this is your goal.
You can become your own credit repair specialist by taking several steps:
1. Check your credit report for free
Obtain your credit reports for free at AnnualCreditReport.com and review it carefully. According to a 2013 Federal Trade Commission study, one in five consumers had an error on at least one of their three credit reports. In some cases, the errors were bad enough to lower credit scores by 25 points or more.
If you see a mistake or outdated item — generally seven years but sometimes longer for bankruptcies, liens and judgments — contact Equifax, Experian or TransUnion. Each of the credit bureaus has a process for correcting errors and out-of-date items.
2. Create a budget
To improve your credit standing, you must know what you are spending to avoid racking up debt. The best way to do this is with a budget that tracks income and expenses. Look for opportunities for small savings — they add up.
3. Make all payments on time and in full
This is the gold standard for good credit. Develop the habit of making bill payments on time. This will allow you to avoid late fees and other needless costs, as well as blemishes on your credit report.
Although you’re looking to get a mortgage, you must have money available for emergencies, too. Set aside cash every week or pay period, and aim for at least $400 in savings to start. You must have savings to buy a home, as well, not only for a down payment but also for closing costs, so getting into the habit of saving regularly can help you now and when you’re ready to house hunt.
5. Be careful about closing credit cards
A closed credit card can lower your credit score. The reason? Closing a card means your available credit has dropped, reducing your borrowing power and, more importantly, your credit-utilization ratio (a measure of how much credit you have used relative to your total credit availability).
6. Take advantage of credit-boosting programs
The UltraFICO and Experian Boost programs track the movement of cash in your bank account, and in many cases your score can go up based on this data.
According to Experian, 61 percent of the Boost program’s participants saw their scores go up, with the average bump being 13 points. Fair Isaac published similar statistics, reporting that seven out of 10 consumers in the U.S. with good financial habits have an UltraFICO score higher than their traditional FICO score.
Many banks also offer credit monitoring for their customers, which can be a good idea to utilize in tandem. Having a handle on what goes into your score can help you improve it.
7. Consider a rapid rescore
Credit report changes can take time to go through the system. That means improved scores might not show up in time for a mortgage application. In this case, you might want to get a so-called rapid rescore through your lender.
A rapid rescore allows a mortgage lender to submit proof to a credit agency that an applicant has made recent changes or updates to their account that are not yet reflected on their credit report, according to Experian. Borrowers cannot request their own rapid rescore; the service is only offered to lenders. A rapid rescore isn’t free, either, but the fee for adjusting your credit during your mortgage application could be offset by your lower interest rate.
Should you get a mortgage or increase your credit score first?
If you look at the loan savings chart above you can see two things: First, bad credit means higher mortgage loan costs. Second, although the chart doesn’t go below 620, you can guess that credit scores below 620 lead to even higher financing costs.
So, should you take out a mortgage now or increase your credit score before you apply for financing? The best answer is to plan ahead.
Credit scores continually fluctuate, so it’s worth taking steps to improve your credit score before researching a home purchase. Even if you only raise your credit score to 665 or so from 650, you might be able to cut your mortgage costs significantly. Over the course of a 30-year mortgage, for instance, your monthly payment will be lower and you would save almost $20,000 (based on the above example).
A few straightforward ways to improve your credit score are to pay down existing debts, make sure you stay current on your bills and avoid opening new lines of credit (like car loans or credit cards) while you’re applying for a mortgage. For more advice, check out Bankrate’s guide to improving your credit.
Watch for bad credit mortgages and ‘guaranteed’ approval
As you work to improve your credit score and build your standing as a creditworthy mortgage borrower, be wary of bad credit loan offers. If you see ads promising “guaranteed” approval for a mortgage, that’s a red flag. Under federal rules, a lender must verify the ability of a borrower to repay the mortgage, so there can’t be a “guarantee” unless that happens.
On these kinds of offers, you might even get that guaranteed approval, but it’ll come with costs. If you see an offer like this, ask yourself: What are the fees, what is the interest rate and what is the prepayment penalty? These costs might be inflated or excessive, which will hurt you in the long run.