If you don’t have very good credit, or even if you have poor credit, you may still have options for home financing. Many people mistakenly believe that you have to have ‘perfect credit’ in order to get a home loan. Today that is not the case – you just have to do a little legwork to find a lender with a loan for you. While it won’t be as easy as calling up your local bank and taking the advertised (low) interest rate, it may not be as hard as you think.
Start With FHA Loans
We encourage you to start with government-backed loans, especially the FHA loan. This loan has flexible guidelines and the ability to put as little as 3.5% down on the home, if you have at least a 580 credit score. If your credit score is lower than 580, you can still get the FHA loan with a credit score as low as 500, you just need to put down 10%, rather than 3.5%.
The other FHA guidelines include:
- Stable income
- Stable employment for the last 2 years
- Enough assets to make the required down payment
- A 31% housing ratio
- A 41% total debt ratio
- Enough assets to cover the closing costs
- Proof that you’ll live in the home as your primary residence
If you have a credit score that is on the lower end, especially if it’s between 500 – 580, you need to have compensating factors or a reason for the lender to want to give you the loan. Compensating factors are something that makes up for the risk that your low credit score may pose.
A few examples of compensating factors include:
- Stable employment with regularly increasing income
- Low housing ratio or low total debt ratio
- Assets left over after you make your down payment and pay the closing costs that can serve as reserves (money to cover your mortgage payments)
These compensating factors give the lender reassurance that you won’t default on the loan despite your low credit score.
Subprime Loans are Okay Too
If you can’t get an FHA loan for one reason or another, you can turn to subprime loans. These loans aren’t as bad as many people make them out to be. Yes, they were a big part of the housing crisis, but they weren’t the sole reason and today they are more secure
A subprime loan may also be called a portfolio loan. Either way, it’s a loan that the lender keeps on their own books. In other words, they don’t sell it on the secondary market. This means the only entity that has a say in the rules is the lending institution. This gives the bank a little more wiggle room in what they can and cannot accept.
While we can’t give you the exact parameters of what every subprime lender would require, we can tell you that you should try to maximize all of the following factors:
- Get your credit score as high as you can (even if that means 600)
- Get your debt ratio down (pay off as many debts as you can)
- Save money for a down payment and to cover the closing costs
- Keep your employment stable (try not to change jobs)
The better your qualifying factors, the higher your chances of getting a subprime loan become. Again, because each lender can create their own requirements, you may find one lender has incredible flexible guidelines while another is a little tougher. You are free to shop around until you find the loan that works just right for you.
Owner Financing May be an Option Too
In some cases, owners are willing to help a buyer purchase their home by offering owner financing. Sellers that own their home free and clear may offer this. Typically, it’s a short-term loan, though. Sellers offer it as a way to get you into the home, while giving you time to build your credit back up, pay your debts down, and get the ‘good loan’ that you want.
Just like a loan with the bank, the seller will hold the note and collect principal and interest payments from you. They will establish a due date and collect the payments from you accordingly. Because the seller sets the terms, you should make sure you read the fine print on the documents you sign. Don’t rely on any verbal agreements – read the fine print before you sign on the dotted line.
Typically, you’ll need to refinance the debt within a few years of obtaining it. The seller will disclose the terms in your documents so that you know when the loan becomes due and payable, which means you need to refinance it.
You do have options for alternative home financing if you have poor credit. It’s not all about perfect credit and super low debt ratios. The key is to shop around to find the lender that has the best program and qualification requirements for you.Click to See the Latest Mortgage Rates»