How to Buy a House with Bad Credit

Guest Post by Bill Gassett

Do you want to buy a home but have awful credit? Buying a home with bad credit can be seemingly impossible. You've probably heard before that you need a good credit score to buy a home, which is part of the truth.

While having a top-shelf credit score can certainly help you get the best loan terms and conditions, it isn’t a necessity. In fact, there are mortgages such as bad credit home loans that are available to anyone with a bad credit score. So all is not lost!

In this article, we’re going to go over just how you can buy a home with bad credit and how your overall credit score might not be as big of an issue as you think it is when you’re trying to fly the nest.

What is considered to be a bad credit score?

Before we get into the loans available to you, let’s first talk about what is considered a bad credit score. Unfortunately, there is nothing set in stone when it comes to knowing whether or not you have the minimum credit score required by a lender to buy a house. Mortgage lenders set their own requirements when it comes to lending money to those with bad credit, but there are some general rules you can apply to find out whether or not you would be eligible for a loan.

Perhaps most important, it is essential to have a firm grasp on specific credit score ranges and where you fall into the mix. You’re going to find that if you have a credit score lower than 500, it will be difficult to get yourself a home mortgage. A score between 580–669 is considered to be a fair score, while one that is from 300–579 is considered to be very poor.

But remember, even if you have a bad credit score, it doesn’t put you in the same scenario as someone else with a similarly bad credit score.

There are other factors that mortgage lenders consider before declining or accepting your mortgage request.

Can you buy a house with bad credit?

As mentioned above, even with a low credit score, a mortgage lender will consider additional factors to your credit report when you apply for a mortgage.

Lenders will also consider the following:

• How much debt you currently have
• The amount of money you have available for a down payment
• How much money you’re bringing in each month

Essentially, even with a lower-end credit score, as long as you have a sizable down payment, you’re more likely going to be considered for approval for a home loan.

Since your credit score will only qualify you for a certain loan amount, if you have a sizable and consistent monthly income, then you can make up the difference with that instead. Though, as mentioned before, the lender you choose to go with also matters because the requirements you’re going to need to meet will vary.

If you are serious about buying a home, you should also get your mortgage pre-approval squared away before you start looking at homes.

What are the bad credit loan options?

FHA loans

An FHA loan is a great choice if you’re a first-time buyer. One of the significant benefits of an FHA mortgage is that you will only need to come up with 3.5 percent for a down payment. The Federal Housing Administration (FHA) backs these loans. The minimum credit score requirement for a loan is usually around 580.

If you can make a sizable down payment of at least 10 percent or have a high income, then you could be approved for a loan even if you have a score as low as 500. However, many lenders may shy away from granting financing when you're under 580.

Conventional loans

There are no real specifics tied to getting a conventional mortgage loan, though you will need a minimum credit score of 620+ if you’re looking to qualify for a loan like this.

Typically, if you have a high down payment ready or high monthly income, it will be much easier to qualify for this type of loan even if your credit score is below 620. It is advised to speak to multiple lenders or find a reputable mortgage broker who has access to numerous lenders.

The benefit of using a mortgage broker is that you are not locked into one lender's standards. Mortgage brokers can seek out and find the best loan for your specific financial circumstances.

USDA loans

Another loan backed by the government, a USDA, allows you to buy a home in a qualifying rural area with a zero percent down payment.

You will need a credit score around 640 to be qualified for this loan, along with other specifics.

A USDA loan can only be used to buy a home in what's considered a rural area. By definition, that is an area whose population is no more than 10,000 or a population that is no higher than 20,000 while also not in a metropolitan statistical area and lacks mortgages available for low to moderate-income families.

Lastly, an area that used to be classified as a rural area but was changed due to census figures might still qualify if the area's population doesn’t exceed 35,000 and still has rural characteristics. A lender will be able to tell you if the area qualifies for a USDA mortgage.

VA loans

If you’re a veteran or you’re currently an active-duty member of the armed forces, then choosing a VA loan could be best for you.

A VA loan allows you and your spouse to buy a home with zero down payments, although just like the other loan options on this list, you’re going to need a credit score around 620 to be eligible for a VA loan in the first place.

Other than USDA loans, a VA mortgage is the only other no down payment option.

What about a hard money loan?

A hard money loan should be your last resort if other lenders turn you down due to your bad credit score. Hard money loans are not based on the borrower's creditworthiness but on the value of the property used for collateral.

Traditional lenders do not grant hard money loans. They are typically given by private investors, or hard money lenders, who see an opportunity to make money by charging a borrower a much higher interest rate, which can be a big downside for the borrower. But on the positive side, it is usually a short-term loan that allows someone to purchase a home.

The borrower has to feel confident that their current lack of good credit standing is short-term, and they expect a rapid improvement. The goal would be to refinance out of a hard money loan as quickly as possible.

How can I improve my credit?

For obvious reasons, anyone looking to buy a home should strive to increase their credit score. A good credit score comes in handy for so many things in life, whether buying a home, car, or credit cards; having a good credit score can also save you an incredible amount of money by lowering your mortgage loan interest rate.

Besides spending money going to a credit improvement company, you can do another highly recommended thing to improve your credit. Sign up for a free service like Credit Karma or Experian to find advice on how to improve your credit scores. Many people often make poor credit choices because they don't know what negatively impacts it and what doesn't.

For example, many people might think canceling a credit card is a good move when, in fact, it will drop your credit score. Being aware of credit myths such as this can make the biggest difference in improving your credit score.

Final thoughts

Whether you are buying a traditional house, modular home, townhouse, or condo, your credit score will play a significant role in what you "really" pay for a home. While most people look at the purchase price as what they have paid, it really is the interest on the loan you end up paying over the term of the loan.

When you have a bad credit score, you have a higher interest rate, which in turn makes for higher monthly payments, which is very important to consider. Striving to obtain the best score possible is worth the effort, but if it isn’t where you’d like it to be right now, take heart in knowing that there are some other options available to you, allowing you to fulfill your dream of buying a home.

Bill Gassett has been a real estate agent for the past 34 years working for RE/MAX Executive Realty in Hopkinton, Massachusetts. He is also an avid writer for numerous real estate publications including The National Association of Realtors, RIS Media, Inman, as well as his own blog "Maximum Real Estate Exposure."