Getting a mortgage with bad credit isn’t as impossible as it seems. This is true if you are considering refinancing your mortgage or buying a home outright.
The biggest reality you have to face when you get a mortgage with poor credit is that you will have to pay more money for your loan, but you don’t have to accept any rate the lenders try to force down your throat. The lower your credit score is, the higher your interest rate will be. This means that over the life of your loan, you could pay a lot more. Here is an illustration that compares the number if you borrow $180,000 for 30 years, figuring 1.25% for property tax and 0.5% for PMI:
- Excellent credit and a 4.6% interest rate: $1,110.26 monthly payment, $143,118.55 paid in interest over the life of the loan.
- Good credit and a 5% interest rate: $1,153.78 monthly payment, $158,410.47 paid in interest over the life of the loan.
- Fair credit and a 6.3% interest rate: $1,301.65 monthly payment, $210,369.37 paid in interest over the life of the loan.
- Poor credit and a 8% interest rate: $1,508.28 monthly payment, $283,179.44 paid in interest over the life of the loan.
You can see the big difference that your credit score makes. This applies whether you are buying new or refinancing. The lower your credit score, the more you will pay in interest. If you want to get a bad credit mortgage, you have to be prepared to pay more in interest. (Of course you can get a lower rate with 15-year mortgages, but you’ll still have to pay more than someone with decent to good credit.)
Neal’s Notes: If all else fails, consider asking a family member to buy the property and “rent” it back from them. You have to protect yourself of course but this approach can work well. The basic idea is for the family member to take a loan against their existing home and use the proceeds to buy a home which you occupy. Then, you make payments to your benevolent relative to cover their loan.
On top of being willing to pay more in interest charges over the life of your mortgage loan, you will also need to prove yourself an acceptable risk in order to be approved. You might have to show income documentation, indicating that you will be able to afford the loan. You will also have to show that you have stable job, and that your income is unlikely to change anytime soon. Your other debts will be taken into consideration as well. If you have a high debt to income ratio, you might not be approved for a mortgage with bad credit.
In some cases, you might be able to prepare a letter or statement explaining your circumstances, and what you are doing to get your credit back on the right track. For those who have a foreclosure in the past, or for those who have declared bankruptcy, some sort of assurance that it isn’t likely to happen again soon is often sought. Your statement may need to provide information about what led to your poor credit situation and the steps you are taking to improve your credit now and stay out of trouble in the future.
Watch Out for Scams
Everyone should be vigilant about real estate scams, but when you have poor credit you have to look extra hard about the deals that come your way. There are those who promise that you can get a loan — if you are willing to pay upfront. It is important to note that no one can “guarantee” you a loan just because you pay them money; it’s illegal to do that. Many scammers offer the assurance that, with the right upfront payment, you can be approved for a mortgage. They take your money and disappear, and you are in an even worse position.
Carefully evaluate your options. In some cases, it just may not be time for a bad credit mortgage. It might be wiser to clean up your credit before applying for a home loan.
Neal’s notes: Thanks for a great post, Miranda. I also suggest that people who have credit history challenges consider unconventional financing. Consider borrowing money from alternative sources and/or having someone with great credit apply for the loan while you make payments to them under another arrangement. Have you ever dealt with a situation like this? Did you find a unique way to find a mortgage?