By Bill Lyons | Published on September 15, 2022
TABLE OF CONTENTS

    Having bad credit doesn’t always mean that you won’t be able to get a mortgage or home equity loan, although it does complicate your efforts. There are ways for you to get the funding you need to buy or borrow against the equity of your home even when your credit rating isn’t great. The following is a look at the best home loans for bad credit and how to overcome the issues that accompany having bad credit.

    What do lenders consider a bad credit score?

    There are two major credit scoring models used by lenders: FICO and VantageScore. Both pull from TransUnion, Experian, and Equifax to determine your credit score. Most lenders use the FICO score, but there’s always a chance you’ll come across one that uses the VantageScore. In this article, we will use the FICO score as a basis for understanding credit ratings since more lenders use FICO.

    FICO score range:

    • 300 to 579 – Very poor
    • 580 to 669 – Fair
    • 670 to 739 – Good
    • 740 to 799 – Very good
    • 800 to 850 – Excellent

    If you intend to take out a mortgage with a traditional lender, you’ll need a credit score of at least 620. It’s possible to get a mortgage with a lower score, but you’ll have to look at FHA loans, or VA Loans and similar loan products. Traditional lenders are less likely to consider your application if you’re significantly under the 620 score.

    Remember that having bad credit does not mean you won’t get a home loan. What it does mean is that you’re likely to pay a higher rate of interest and more in the way of fees. The same is true when you’re looking for the best home equity loans for bad credit.

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    Can you take out a home loan with bad credit?

    Yes, you can take out a home loan with bad credit. In fact, one of the best home loans for bad credit is an FHA loan. FHA, or Federal Housing Authority, guarantees the repayment of a loan to the lender that issues the mortgage. FHA loans also have a minimum credit score requirement of 500, although that comes with a requirement of a higher down payment.

    Lenders look at more than the credit score. You can have excellent credit but have issues in other areas that can make it more difficult to get a mortgage. They include:

    Credit utilization

    Credit utilization is the amount of money you have outstanding in the form of personal loans, credit cards, lines of credit, auto loans, and any other type of lending that reports to the credit bureaus. Your credit report lists your personal finance history, and it shows all of your balances.

    The lender looks at the credit limit and compares it against the outstanding balance. For example, you have a credit card with a $5,000 limit, and you’ve got an outstanding balance of $2,500, that means you have a 50% utilization of the credit card. All of your outstanding debts are evaluated in the same manner, and the lender totals all of your debts together and compares them against how much total credit is available to you.

    The lower your utilization, the better it is for you to get approved. Lenders prefer to see 30% utilization and lower. This can help you overcome a bad credit rating.

    Negative marks on your credit report

    Negative marks on your credit report include debts that have been charged off, accounts that go to collection, a bankruptcy that hasn’t aged out, multiple missed payments to one or more creditors, civil judgments, and IRS tax liens. 

    Also known as black marks, negative marks stay on your credit report for anywhere from seven to 10 years. The reason why a black mark affects your credit rating and ability to get a loan is that it shows that you’re not a reliable payer. But if the problem dates back years, and you’ve been current since, these issues can be less impactful to your credit score.

    Payment history on current and past credit

    Usually, the reason why you have bad credit comes down to not having a good payment history. However, if the missed payments are older, they have less of an effect on your credit score. In contrast, the more recent the missed payments, the more it brings down your score.

    Recent applications for credit

    Applying for financing of any kind results in what is known as a hard pull on your credit profile. Each hard pull shows up as a separate line item on your report. This indicates to a lender that you’re looking to borrow money from as many sources as possible and rack up debt. This is a flag that someone may have intentions to default on repayment. It’s something of a catch-22 because you need to apply to get a home loan, but if you get turned down, it’s normal to apply with another lender.

    Sometimes the credit bureaus ignore the hard pulls and won’t ding your score harshly, but you can’t always be certain that it won’t count against you. The best plan of action to avoid this issue is to spread out your applications for financing and only apply out of need, not because of an offer. Most lenders will also offer a soft pull which will give you an idea of your credit score with dinging your credit with a hard inquiry.

    What types of loans can I apply for?

    The home loan market features a variety of mortgage options for people who don’t have good credit. The best lenders for home loans with bad credit are ones that want to help their customers get onto the property ladder and recognize that the credit score is not the whole story of someone’s creditworthiness.

    Conventional mortgage

    A conventional mortgage is also known as an 80/20 mortgage and is not backed by a government agency. You put down 20% and the lender loans you the remaining 80%. Some lenders may allow you to put down a smaller amount, but 80/20 is a lending industry standard.

    Government-backed mortgage

    An FHA loan is a traditional qualified mortgage (QM), but has a lower down payment requirement. An FHA loan requires 3.5% down, and allows the use of gifted money as part of the down payment. It’s one of the best home loans for first-time buyers with bad credit.

    A VA loan is a traditional qualified mortgage (QM), but has no down payment requirement. You must be eligible for VA benefits by serving in the miltary. VA loans are a good option for veterans with bad credit.

    Adjustable-rate mortgage

    An adjustable-rate mortgage, also known as an ARM, is typically easier to get with good credit. The interest rate on an ARM fluctuates up or down depending on the prime interest rate currently offered by the Federal Reserve. Other factors influence the interest rate, but it’s safe to assume that if the federal funds rate goes up, so will the interest rate on an ARM.

    Fixed-rate mortgage

    A fixed-rate mortgage features the same interest rate throughout the life of the mortgage. You can choose a fixed rate on a conventional loan, VA loan, FHA loan, or Non-QM loan, but you can get it with a lower down payment and it will last for 10 to 30 years. You can get a loan that has a monthly payment that suits your budget and has payments spread out over the number of years that you’re comfortable with.

    Reverse mortgage loan

    If you’re 62 years or older, you can take out a reverse mortgage loan to take advantage of the equity in your home. A reverse mortgage consists of a lender buying out the equity in your home and giving you a lump sum or payments over time as if you had taken out a loan. The most popular reverse mortgage is a federally backed program known as the Home Equity Conversion Mortgage (HECM). You can free up the equity to fund your retirement or other desire and still own your home until you pass.

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    What can I do if I can’t receive a home loan because of my credit?

    You’re not necessarily out of the home buying game even if you can’t get a mortgage with bad credit. You can improve your credit score by taking steps to fix the issues in your credit report and make it a point to focus on fixing your mistakes when it comes to repaying your debts. Here’s a look at how.

    Dispute bad marks on your credit report

    You can dispute negative information on your credit report by yourself or with the help of a lawyer or a reputatable credit repair company. It’s worth spending the money on a lawyer who knows how to draft letters and argue with the credit reporting bureaus to clean up your credit report.

    Maintain regular payments

    Get on track with paying your debts, especially if you haven’t been doing so. The results take a while to show up on your credit report, but the longer you keep a clean track record of payments, the better your score gets.

    Don’t open up new lines of credit

    Don’t open up a new credit card or take out a car loan if you can avoid it. You need to have the least amount of open lines of credit with balances on them in order to look like a good risk to a lender.

    These processes take time to complete and improve your credit score, but it’s worth being patient. You haven’t harmed your chances of buying a home by waiting a few months or a year to clear up your credit report and establish a pattern of regular payments on your lines of credit.

    Final thoughts

    Having bad credit doesn’t automatically disqualify you from getting a home loan. It does, however, make it more difficult and costly to get one through a bank as they tend to be more conservative with their lending requirements. At Griffin Funding, we can help you buy your dream house even with bad credit through traditional and non-conventional mortgage lending. Our mortgage options are designed to meet various lending needs including bad credit. Give us a call today to learn more about your options, whether you’re looking for the best home improvement loans for bad credit or an FHA loan.

    Bill Lyons

    Bill Lyons is the Founder, CEO & President of Griffin Funding. Founded in 2013, Griffin Funding is a national boutique mortgage lender focusing on delivering 5-star service to its clients. Mr. Lyons has 22 years of experience in the mortgage business. Lyons is seen as an industry leader and expert in real estate finance. Lyons has been featured in Forbes, Inc., Wall Street Journal, HousingWire, and more. As a member of the Mortgage Bankers Association, Lyons is able to keep up with important changes in the industry to deliver the most value to Griffin's clients. Under Lyons' leadership, Griffin Funding has made the Inc. 5000 fastest-growing companies list five times in its 10 years in business.