Buying a Home with Bad Credit

One of the most important determinants of whether you can get a mortgage loan is your credit score. Fortunately, buying a house with bad credit is becoming feasible for more Americans. Most lenders consider credit scores of 600 or below to be bad credit, and Experian, one of the three major credit bureaus, estimates that nearly 30% of consumers have scores at or below this level. Since scores in this range are fairly common, lenders are developing programs to help consumers reach their goals of homeownership, despite having some credit issues.

How can I buy a house with bad credit?

Bad credit mortgages, also called subprime mortgages, are available to aspiring homebuyers, but they come with certain stipulations. Bad credit loans come with higher interest rates and often require higher down payments as well. For example, the national average APR on a $300,000 mortgage loan for someone with perfect or near-perfect credit is 3.094% as of May 2020. For the same loan provided to a borrower with credit scores in the 620-640 range, the average APR jumps to 4.683%. Over a 30-year mortgage, the borrower with lower credit scores would pay over $98,000 more in interest, and borrowers with scores below 620 should expect even higher rates.

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Challenges of buying a home with bad credit

Since bad credit home loans typically come with higher down payments and higher interest rates, the amount of home a borrower with poor credit can afford is reduced. Lenders with special programs targeted to those buying a house with bad credit will often require special homebuyer’s education classes before finalizing the loan, so bad credit loans typically take longer to close. If you have bad credit, however, all of these challenges are surmountable if you plan early and account for them as you begin the buying process.

[Related: Best Lenders for Low- and No-Down-Payment Mortgages]

What options do I have?

Depending on exactly where your credit score falls, some traditional lenders may be willing to offer you a home loan. RocketMortgage works with borrowers with credit scores as low as 580, and its streamlined online application process is much quicker than an FHA approval. Some mortgage services don’t directly offer loans but instead, work as a search engine to aggregate financing options that meet the borrower’s income and credit score limitations. In addition to traditional lenders or loan research services, there are several homeownership programs designed to help borrowers with credit challenges.

FHA loans

The FHA, or Federal Housing Administration, is a government agency that helps certain disadvantaged borrowers qualify for home loans through FHA-approved lenders by providing insurance on the loan in case the borrower defaults. FHA loans typically require a minimum 500 credit score, and loans for borrowers with scores below 580 require higher down payments and mortgage insurance premiums.

NACA loans

The Neighborhood Assistance Corporation of America is a nonprofit organization that promises to help make homeownership possible for working Americans, regardless of credit issues. NACA does not consider credit scores in the underwriting process, and they promise no down payments, no closing costs, no fees, and reasonable interest rates. There are some income and geographic limitations, and the qualification process is extensive and requires continuing education even after purchasing a home.

USDA loans

The USDA loan program is similar to an FHA loan in that the U.S. Department of Agriculture helps buyers qualify by providing insurance on the loan. The purpose of this program is to encourage residential development in rural areas, so borrowers must purchase a home in an approved rural area. Income restrictions do apply, but many borrowers can qualify for 100% financing through this program.

Improve your credit score before buying a house

Once you begin working with a mortgage lender, the lender may advise you to make some small changes to improve your credit situation quickly. Each of the three major credit bureaus — Experian, TransUnion and Equifax — have a specific process for disputing inaccurate transactions.

Your mortgage advisor may also identify certain debts to pay off or pay down so they are no longer factoring into your score during the underwriting process. Paying off some debts won’t help your credit at all, however. The type, age, and amount of the debt all play a role in how mortgage lenders view your credit, so it’s best to seek advice from your lender about the best strategies for improving your credit score before buying a home.

[Read: What Is a Good Credit Score Range?]

Pros and cons of buying a home with bad credit

Although buying a home with excellent credit can save you money over the life of the loan, it doesn’t always make sense to wait until your credit is perfect before buying a home. Buying a house with bad credit can make good financial sense for some borrowers, especially if their current housing situation is costing considerably more than what they would pay for a bad credit mortgage.

Before starting the mortgage process, consider the pros and cons of buying a home with bad credit.

Pros

  • Owning means building equity: Throwing away rent payments month after month isn’t helping to improve your net worth. When you own a home, your mortgage payments are building equity; each payment transfers some of the value of your home from your mortgage company directly to you.
  • Cheaper than renting: In a rental property, your monthly rent payments are helping your landlord to cover his mortgage, so you are likely paying more than the property is worth. Even with a bad credit loan, you may find your monthly mortgage payments are cheaper — or at least comparable.
  • Assistance programs are flexible: With certain homeownership programs, you may qualify for financial assistance to cover your closing costs or down payment.

Cons

  • Higher interest rates: Even a half-percent increase in your interest rate can translate to tens of thousands of dollars extra over the life of your loan.
  • Lengthy process: Bad credit loans often have additional requirements, and mortgage lenders tend to be extra careful with risky borrowers, drawing out the process.
  • Larger down payment: To compensate for a lower credit score, some lenders may require higher down payments, so you may need to be prepared to come up with more money upfront when purchasing your home.

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Julia Taylor

Contributing Writer

Julia Taylor is a freelance writer based in Nashville, TN. She takes complex business, financial, and technical topics and makes them easy to understand. You can find her work published on a variety of business blogs, including Paychex, Kapitus, Sanford Brown, Fortis Educational Institutes, American University of Antigua and Interest.com

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  • Courtney Mihocik
    Courtney Mihocik

    Courtney Mihocik is an editor at The Simple Dollar who specializes in insurance, personal finance, and loans. Previously, she wrote and edited for Interest.com, PersonalLoans.org, Ballantyne Magazine, Thread Magazine, The Post, ACRN, The New Political, Columbus Alive and the Institute for International Journalism.