Buying a Home with Bad Credit: A Comprehensive Guide

If you’re dreaming of owning a home but your credit score isn’t where you’d like it to be, you might be worried about your chances of qualifying for a mortgage. The good news is that it is possible to buy a house even with bad credit. While having a poor credit history can make the process more challenging and potentially more expensive, there are still options available to you. In this guide, we’ll explore how you can buy a house with bad credit, the types of loans available, and tips for improving your credit score before making a purchase.

Can You Buy a House with Bad Credit?

Yes, you can buy a house with bad credit. There isn’t a single credit score required to buy a house, and it’s possible to qualify for a mortgage even if your credit needs improvement. However, a lower credit score can make it harder to qualify for a home loan and limit your options. On the other hand, the higher your score, the more options you’ll have for credit, including home loans. If you’re not in a rush, you may be better off taking the opportunity to improve your credit before you apply for a mortgage loan.

What Do Lenders Consider a Bad Credit Score?

Most lenders look at your FICO® Scores to evaluate your creditworthiness. With this credit scoring model, a “good” credit score is anything above 670. Here’s what you need to know about qualifying for a mortgage based on your credit score:

• If your credit score is in the mid-600s: You may be able to qualify for a conventional mortgage or a USDA loan.
• If your credit score is at least 500: A government-backed FHA loan could be an option if you can afford a 10% down payment.
• If your credit score is below 500: You might not be able to get approved for a home loan and may need to focus on improving your credit first.

Home Loans for Bad Credit

Qualifying for a conventional mortgage with bad credit can be difficult, but there are other borrowing options to consider:

FHA Home Loans

The Federal Housing Administration (FHA), part of the U.S. Department of Housing and Urban Development (HUD), offers a home loan program that can help consumers with poor credit. With an FHA loan, the agency insures home loans, meaning the FHA will repay the lender if a borrower defaults on a mortgage. This allows lenders to be more lenient about credit and income requirements. FHA loans require a credit score of at least 580 with a 3.5% down payment, or 500 with a 10% down payment. While FHA loans can be more expensive than conventional loans for buyers with good credit, they can be a better option if you have poor credit or can only afford a small down payment.

VA Loans

If you’re a service member, veteran, or surviving spouse and meet the eligibility requirements, you may qualify for the U.S. Department of Veteran Affairs (VA) home loan program. The VA backs loans, similar to the FHA program, but a VA-approved lender issues the loan. Technically, there’s no credit score requirement for VA loans, but many VA-approved lenders require a minimum credit score of around 620.

First-Time Homebuyer Programs

If you have poor credit and are a first-time homebuyer, you might qualify for assistance programs. These programs can include mortgages with less-strict credit requirements than conventional lenders and may offer other assistance, such as covering part of your down payment or closing costs. Even if you’ve bought a home before, you may still qualify for a first-time buying program if it’s been several years since you last owned a home. To find first-time buyer programs in your area, search online and include the name of your state or county for more localized results.

How to Buy a House with Bad Credit

Your credit is an important factor in determining whether you can get approved for a mortgage, but it’s not the only factor lenders consider. Here are some tips for buying a home when you have bad credit:

1. Shop Around for Rates

No matter what your credit scores, you’ll want to compare your loan options to get the lowest rate possible. The Consumer Financial Protection Bureau (CFPB) has a mortgage interest rate tool you can use to compare rates based on your state, credit score range, and loan details. Government-backed mortgages, such as FHA and VA loans, are often a good starting point if you have poor credit.

2. Save for a Larger Down Payment

The larger your down payment, the more likely you are to be approved for a home loan. A larger down payment lowers your loan-to-value ratio (LTV), which reduces risk for the lender. In general, lenders like to see an LTV of 80% or less. If you lack good credit, a larger down payment may be necessary. Plus, a higher down payment can help you get a lower interest rate. Saving for a large down payment isn’t easy, but tweaking your budget can make it an attainable goal.

3. Lower Your Debt-to-Income Ratio

Your debt-to-income ratio (DTI) is an important factor in qualifying for a mortgage. A lower DTI is better when you’re applying for a home loan. Lenders typically look for a DTI of 43% or less (or, in some cases, 36% or less). If you’re a low-credit borrower, aiming for an even lower DTI can ease lenders’ concerns about your ability to manage bills and help you get approved.

4. Add a Cosigner

Adding a creditworthy cosigner to your application can help you qualify for a mortgage with bad credit. However, keep in mind that the cosigner will be legally responsible for the mortgage payments, and the mortgage could impact their creditworthiness and increase their DTI.

5. Increase Your Savings

Money in your savings account, money market account, investment accounts, stocks, bonds, CDs, and the like all count toward your net worth. When you apply for a mortgage, lenders will look at all of your assets for evidence that you would be able to continue making payments even in the event of unexpected bills or job loss.

How to Improve Your Credit Before Buying a Home

Even if you want to buy a home right away, it might make more sense to work on your credit before applying for a home loan. Here are some tips for improving your credit before buying a house:

• Continue making on-time payments. Making credit card and loan payments on time is one of the best ways to improve your scores. Even if you can only afford minimum payments, it’s better than missing a payment altogether.
• Pay down revolving debt. Your credit utilization rate represents the percentage of your available revolving credit that you’re using, and it’s an important factor in determining your credit scores. Paying down your revolving debt, such as credit cards and lines of credit, can help lower your utilization rate and increase your scores. Be sure to keep your credit cards open, rather than closing them.
• Avoid new credit applications. Applying for new loans or credit cards can lead to hard inquiries, which typically hurt your credit scores. Hard inquiries stay on your credit report for two years, but their impact on your scores generally lasts a year or less. It may be best not to apply for any new accounts if you’re getting ready to apply for a mortgage.
• Get credit for your bill payments. You can sign up for Experian Boost® to get credit for the eligible bill payments you’re already making. This feature is completely free and can improve your credit scores fast by using your own positive payment history.

Should You Buy a Home with Bad Credit?

If you have bad credit but aren’t at the very bottom of the score range, you may still be able to qualify for a home loan. However, even if it’s possible to get approved now, waiting until your credit improves could save you a significant amount of money over time. Having a low score often means you’ll be stuck with a much higher interest rate. Because mortgages are very large loans that usually take decades to repay, even a 1% or 2% increase could lead to paying tens of thousands more in interest over the lifetime of your loan.

The Bottom Line

It’s possible to get a home loan with bad credit, especially if you’re able to qualify for an FHA or VA loan or put down a larger down payment. If you’re able to hold off on buying, however, taking time to improve your credit can help you expand your mortgage options and potentially qualify for a lower rate. To keep tabs on your credit throughout your journey to improve your score and buy a home, sign up for free credit monitoring through Experian. You’ll have access to personalized advice on actions you could take to improve your score, plus notifications whenever there’s a change to your report and score.

At O1ne Mortgage, we understand that buying a home with bad credit can be challenging, but we’re here to help. Our team of experts is dedicated to finding the best mortgage solutions for you, regardless of your credit history. Call us today at 213-732-3074 to discuss your mortgage needs and take the first step towards owning your dream home.