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Perhaps you’ve fallen on hard times or made some financial mistakes. If you’re lucky, you’ve learned from those mistakes, and are on better financial footing. Even so, it can take some time for your credit score to reflect that, making it hard to get any kind of loan or mortgage. If you’ve already been turned down by your bank for a mortgage, you may not realize that it’s actually quite easy to get a loan when you have bad credit. The catch is that you’ll pay through the nose for it.
Getting a mortgage when you have bad credit means making some concessions in terms of the price of the home you buy and the interest rate you accept. Plus, if you want to stay on firm financial footing in the future, you’ll also have to make a serious effort to improve your score.
Here are a few options to consider.
Conventional home mortgages aren’t usually available to homebuyers with credit problems because they present a higher risk for the lender. However, the Federal Housing Administration can be a good resource for aspiring homeowners with low credit scores. The FHA doesn’t lend money, but it does act as a form of insurance for lenders by providing a guarantee that it will pay your lender even if you default on your mortgage. In a lender’s eyes, this approval reduces its risk of lending to someone with poor credit, and improves your odds of getting your mortgage application approved.
However, being accepted into the FHA program isn’t a given, and even if you are approved, lenders are not required to give you a mortgage. Also, in the case of a Chapter 7 bankruptcy or short sale, you may have wait two years—and show improvements in your credit—before being approved by the FHA.
If you do elect to go down this route, be sure to check out Zillow.com’s Complete Guide to FHA Loans and Mortgages for a more thorough understanding of the program, its requirements, as well any limitations.
Since the subprime meltdown, many of the lenders that cater to low-credit borrowers have gone out of business, but there are still some out there. You have to be very, very careful here, because these kinds of lenders are in a prime position to take advantage of desperate borrowers. Be on alert for scams and check out your lender’s reputation with the Better Business Bureau.
You could also get in a touch with a reputable mortgage broker who is licensed in your state. Unlike your local bank or credit union, brokers have access to countless lending resources and are often up to date on many of the programs available to low-credit lenders.
Where Do You Start Looking?
Consider the following resources from several well-known banks:
If there’s a way to get a mortgage deal done with your credit, a mortgage broker is likely to find it.
As we mentioned up front, getting a mortgage when you have a low credit score is very expensive. If you’re going to do it, it pays to make this solution temporary and aim to move on to a more conventional loan as soon as possible. This doesn’t mean you have to get a short-term loan, but plan on paying the mortgage and all your other bills and debts on time so that you’ll have the credit score to refinance into something better within a couple of years.
Be sure to also read about How to Create an Effective Financial Plan
If you’re borrowing with a low credit score, you may have to consider an adjustable rate mortgage simply because the interest rate on a fixed loan will be so high – much higher than any rates you’ll see advertised by local banks or online. This should help keep your mortgage payments low enough to be more manageable.
Understanding the ins and outs of an adjustable-rate mortgage can be a tricky business, especially for first-time buyers; if you’re looking to educate yourself on this, be sure to consider the Consumer Handbook on ARMs, as it offers a detailed, and unbiased, look at this topic.
The risk to an ARM, of course, is that interest rates will rise, causing an increase in your mortgage payment. However, loan experts tend to agree that this is less of a factor if you’re planning on staying in the loan for a short time.
Be sure to also read about how to Avoid these Common Mortgage Mistakes
Lenders may try to convince borrowers to go with a loan with a prepayment penalty. This is essentially a clause in your mortgage contract that allows the lender to collect extra money if you pay off the mortgage early or make extra payments above a certain limit to help reduce your debt. Not only can a prepayment penalty be expensive, but anything that discourages borrowers from reducing their debt is bad news.
If you can pay more on your mortgage, do it – it can save you thousands. And don’t let the lender talk you into a deal that’ll force you to do otherwise.
Still feeling uneasy? Check out this list of questions you should ask your mortgage lender before making a commitment.
If you have poor credit, one obvious way to improve your chances of getting a mortgage is to improve that score. This is a solution that takes longer, but even a small increase in your score can make a real difference. Order a copy of your credit score from all three bureaus– TransUnion, Experian and Equifax start looking for any inaccuracies. Disputing inaccurate information can give your score a significant boost almost immediately.
You can do so by filling out a dispute form and sending it to each company. If you have more time, you can work on improving your credit score by ensuring that you pay down your overall debt and make all credit card and loan payments on time every month. You can check out other tactics for improving your credit score at MyFICO.com.
One thing that can make you a lower risk to a borrower is a big, fat down payment. If you have access to some cash, this can go a long way toward helping you secure a mortgage loan. After all, lenders need some assurance that they’ll get their money back. The more equity there is in the home you buy, the easier it is for them to do that. Plus, a higher down payment will mean that you won’t have to pay private mortgage insurance, which is required of homeowners who put down less than 20 percent of the cost of the home.
So how much should you put down? As you may have suspected, there’s no right or wrong answer; consider Bankrate.com’s Down Payment Calculator to get a sense of what amount you should be aiming for. You can accept down payment money from family or friends, but it must be a gift, not a loan, and you’ll need a “down payment gift letter” to prove it.
Be sure to also check out Dividend.com’s Guide for First-Time Homebuyers
If you can find someone to co-sign for your loan, you could avoid a bad credit mortgage altogether. Keep in mind, however, that this agreement means that you will be putting a family member or friend on the hook for your debt. If you default, both you and your co-signer will suffer the consequences.
Of course, the best way to get a mortgage after you’ve don’t some damage to your credit is to wait until your score improves. This ensures that you’ll get the best possible interest rate on your mortgage, and will help you avoid the predatory lenders that tend to take advantage of borrowers with few other options. Besides, if your bank won’t give you a mortgage because your credit history suggests that there’s a high risk that you won’t repay the loan, you have to ask yourself whether that assessment is accurate given your financial background. A mortgage is a huge financial responsibility that spans many years.
If you already struggle with staying on top of your debts, do you really want to add a mortgage to the mix?
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