How To Buy A House With Bad Credit

I’m sure we’ve all heard of the stress that comes along when it comes time buying a house; there’s having to get approved for a mortgage, closing costs, setting up utilities, furnishing it, moving in, and honestly the list could go on and on.

Have you ever stopped and asked yourself, could my credit score make it harder to get a house?  

Now don’t think that you can’t get a house with bad credit because there are multiple options; you just have to know what steps to take, to secure one.

While you may be taking a less traditional route or facing less convenient loan rates you can still become a homeowner. 

Individuals with lower credit scores are perceived as higher risk cases to lenders, which in turn lead to higher interests’ rates and longer loan terms.

Lenders are trying to make sure that they are see a return in their investment and in this case since it’s a higher risk they are trying to reap a higher reward. 

To understand how you can obtain a house with a low credit score, we’ll look at the following.

1. What is bad credit
         
2. Causes of Bad Credit
                     
3. Types of loans you used to acquire a house with bad credit
         
4. How to acquire a house with bad credit
         
5. Fixing Bad credit
         

What is Bad Credit?

You might be wondering what bad credit is and what causes it, so let me give you the rundown on credit scores, the different ranges, and what affects your score.

Your credit score is that 3-digit number that banks, credit unions, dealerships, and lenders all use to determine whether it’d be wise to lend you money.

The higher your score, the safer it is to approve you for a loan and the better your terms; however, the lower your score is, the riskier it is to lend you money and therefore your terms suffer as a result. 

Lenders, like banks, investors, private companies, etc., all rely on your credit score to tell them how much risk would be involved in lending you money.

There are 5 ranges when dealing with credit scores that show lenders how safe or risky you are. 

The ranges in the credit rating system are (Using FICO): 

• Exceptional: 800-850
        
• Very good: 740-799
        
• Good: 670-739
        
• Fair: 580-669
        
• Very Poor: 300-579

Individuals whose scores fall between good (670-739), very good (740-799), and exceptional (800-850) are more than likely to have an easier time getting approved for a loan; lenders view them as safer individuals to lend to.

On the other hand, fair (580-669) and very poor (300-579) scores are considered riskier candidates, as a result their chances of getting approved are lower.

In addition, individuals with higher scores tend to have better loan terms and interests’ rates, so more of their mortgage payment goes to paying off the loan and not interest charges.

Individuals with lower credit scores have higher interests’ rates and therefore more of their mortgage payment would go towards interests’ charges and less toward the loan; meaning it would take them longer to pay off the loan and they’d lose more money because of interest.

This applies when dealing with traditional mortgage loans, there are loans specifically for individuals with lower scores or incomes. 

Even though an individual may have poor credit, it doesn’t mean that there isn’t a way to improve their score.

A credit score is made up of various factors, so the better you understand your score the easier it’ll be to identify the problem and fix it. 

Causes Of Bad Credit

If purchasing a home with poor credit is your only option, then it would be in your best interest to know what causes bad credit, how to fix it, and how to prevent your score from dropping. 

The most common causes of bad credit are: 

• Missed payments; Your payment history is 35% of your credit score, as a result, any late or missed payments will drop your credit score significantly.
              
• Negative Information: The amount and type of negative information also affect your credit score. For instance, information like charged-off debt remains on your credit report for as long as 7 years.

• Errors in your credit report: Incorrect information can show up on credit reports often; it’s in your best interest to make your report as correct as possible. 
  

Types Of Loans You Can Use to Acquire a House       with Bad Credit

Do you remember how I mentioned that it was still possible to become a homeowner even with a bad credit score?  Well, it’s mostly due to the fact that there are various loans that were created to help people with less than perfect scores or low incomes.

FHA Loans

One of the easiest ways to get a house with low credit scores is to apply for an FHA loan. This loan is backed by the Federal Housing Administration (F.H.A), which is part of the Housing and Urban development administration (HUD). The FHA insures the loan so that your lender can offer you a better deal. 

Some benefits of FHA loans include:

• Low down payments 
              
• Low closing costs

• Easy credit qualification
              
• Bankruptcy and other negative financial information don’t stop you from qualifying for an FHA loan. 
• Down payments could be as low as 3.5% of the purchase price, if you’re a first time-home buyer (available on 1-4 units). 

VA Loans

If you are a veteran, an armed forces service member, or a surviving spouse, then applying for a VA loan might be your best option for getting a home with low credit. VA provides a home loan guaranty benefit and other housing-related programs to help you buy, build, repair, or keep a home for your personal occupancy. It is provided by private lenders, like banks and mortgage companies, but since VA guarantees a portion of the loan, this helps the lender provide you with better terms. 

Some benefits of the VA loan include: 

• No down payment is required and closing costs are limited
              
• Competitively low interest rates
              
• No need for private mortgage insurance (PMI)
• The VA loan is a lifetime benefit, which means the guaranty can be used multiple times.

Different aspects of the VA loan include: 

• Purchase Loans: help purchase a home at a competitive interest rate often without requiring a down payment or private mortgage insurance.

• Cash-Out-Refinance Loans: Allows users to take cash out of your home equity to take care of concerns like paying off debt, funding school, or making home improvements. 

• Interest-Rate-Reduction-Refinance Loan or Streamline Loan: Can help obtain lower-interest rates on existing VA loan by refinancing.

• Native American Direct Loan Program (NADL): Helps eligible Native American veterans finance the purchase, construction, or improvement of homes on federal trust land, or reduce the interest rate on a VA loan. 

• Adapted Housing Grants: Helps veterans with permanent and total service-related disability purchase or build an adapted home or to modify an existing home to account for their disability. 

• Foreclosure Avoidance Assistance: VA provides financial counseling to help veterans avoid foreclosure during periods of financial difficulty. 

• State Resources: Many states offer resources to veterans including property tax reductions to certain veterans.  

Please note that not every person who has served in the armed forces is qualified for a    VA loan. You need one of the following requirements to qualify:          

• You have at least 181 days of active service during times of peace.
                                      
• You have a minimum of 90 consecutive days of active service during time of war.
                                      
• You have more than 6 years of service under the National Guard or reserves.                                                       
• You are the spouse of an active service member, of the armed forces, who lost their life or became disabled due to service.
                          
• To apply for a VA loan, you need to prove that you served with the armed forces; you have to bring either a DD214 if you’re a veteran, or a statement of service if you’re an active service member or member of the nation guard.      

USDA Loans

This is another great option to consider if you want to get a house with low credit scores. USDA loans are backed by the government, through the U.S. Department of Agriculture. One thing to note, the loan must be used to purchase housing in a designated rural or suburban area. 

Like other government-backed loans, USDA loans also offer the benefits of lower interest rates and no down payment. However, with USDA loans, you still need to pay closing costs. The three main types of mortgage programs offered by the USDA include: 

Direct loans:

USDA funds the borrower directly 

Your lender becomes USDA instead of the bank 

These loans usually favor low-income and very-low-income Americans who can’t access any other type of financing for an adequate residence.

Qualifying borrowers’ income must fall at or below the low-income limit in a designated area defined by the USDA; in some areas it falls below $17,000.

Home Improvement loans: 

Help low-income Americans repair or enhance their homes.

Depending on the circumstances, USDA may combine these with grants, meaning that it doesn’t have to be paid back.

Loan Guarantees:

• Ensures a portion of the mortgage if you default on your loan. Lenders tend to feel comfortable offering modest loan terms to low-income individuals with less-than-favorable credit scores. 
• There are some conditions; for instance, household income cannot exceed more than 115% of the median family income in the designated rural area you wish to live in. 
• Household incomes include the combined incomes of the loan applicant and every adult in the household, regardless if the names are on the application.                                                

Steps to Acquire a House with Bad Credit

1. Get your credit report:
   1. Getting a copy of your credit report shows your current credit score as well as where you stand in being able to purchase a home. You can get a free copy of your credit report at AnnualCreditReport.com, where you get one free copy per year.
2. Contact a housing expert:
   1. Considering the difficulty involved in trying to acquire a house with a low-credit score, it is in your best interest to speak to a housing expert; that way they can guide you in the right direction. Make sure to look for housing experts that are approved by the HUD.
                  
3. Consider your available housing budget: 
   1. One problem that people face is when they don’t know how much house they can afford. Your housing costs needs to be realistic and that means factoring in other costs like home insurance, tax levies, maintenance costs, potential HOA costs, moving costs, etc. Speaking to a housing expert can help you get a sense of how much you can afford to spend on housing.         
                  
4. Be aware of higher interests’ rates:
   1. When trying to get a house with low credit, be prepared to pay higher interests on your mortgage; unless of course you qualify for one of the loans mentioned throughout the article. However, if you don’t qualify for a low-income loan, then higher interest is a result of the lender compensating for the increase in risk of lending to you. Please note that once you improve your credit score there is a possibility that refinancing could improve your interests’ charges. 

• Reduce other debts:
  • Despite your credit score, lenders also want to know about your “debt-to-income ratio”; this tells lenders how much of your income you can dedicate to other expenses aside from your debts. Most lenders prefer DTI ratios of 35% and below. You can calculate your “DTI” by calculating your total debt and factoring in your future-mortgage payment; you would then divide that number by your monthly income. You can also speak to your financial advisor about a debt-consolidation plan.
                
• Consider a down payment: 
  • A good way to boost your chances when trying to purchase a home, with poor credit, is to pay a percentage of the total price; also known as making a down payment. Another benefit to making a down payment is that it reduces the amount of interest you pay throughout the course of your loan. 
                
• Reduce Your Loan-To-Value (LTV) Ratio:
  • Your LTV ratio is calculated by dividing your mortgage amount by the value of the home you want to buy. Lenders prefer people with low LTV as it poses less of a risk. In order to keep your LTV low, keep an eye out for deals on home as well as making a down payment.

How to improve your credit

One of the main disadvantages of trying to get a house with low credit scores is that you’d have to pay higher interests on your mortgage, while good credit standing would give one the ability to negotiate a lower interest rate or better terms.

Even if you successfully get a house with low credit scores, it is still necessary to fix your credit score; the sooner you fix your score the easier it’d be to get approved for new lines of credit. 

• Pay all your bills on time:

Your payment history contributes to 35% of your score, so by making consistent payments you’d be helping your score tremendously. An easy way to deal with due dates and avoid late payments is to enroll in auto pay or set up reminders.
            

• Dispute errors in your credit report:

Review your credit report for any inaccuracies; If you find an error, make sure to contact the credit bureau(s) and file a dispute to have the errors corrected. By keeping your file as accurate as possible, you’re ensuring that your score is as optimized as it can be. 
            

• Contact a credit repair service:

A professional credit repair service can help you identify problems, initiate and resolve disputes, and even give you information on how to improve your score. While hiring a credit repair company isn’t necessary, its beneficial and it takes the hassle of having to deal with the credit bureaus, personally, out of the equation.

• Monitor your credit utilization ratio:

Lenders generally prefer to lend money to individuals with a credit utilization rate of less than 30%. A great way of reducing your credit utilization rate is by paying off debts and not maxing out your credit cards. 

Conclusion

Factors like inaccurate information, average length of credit, a diverse file, utilization, and many others all affect your scores, which is why it’s essential to understand your file.

While the process is a lot harder, it’s not impossible to acquire a house with bad credit, especially when you carefully follow the instructions in this guide.

If after reading this guide you’re still unsure about what to do next in the home buying process or how to improve your score, then make sure to contact the professionals.