While it’s true that having bad credit can make it more difficult to obtain a mortgage, it’s absolutely not true that you can’t buy a home with bad credit. If this is the only thing holding you back from buying a home, consider these facts and re-evaluate your stance:
Mortgage Products Exist for People with Bad Credit
What many people with bad credit don’t realize is that there are specific mortgage products and home purchase options just for people who have bad credit. These products may come at a higher mortgage interest rate or require more of an up-front investment, but they do exist.
One option that many people with bad credit pursue is buying a home with a high-interest option, and then refinance in a few years when the credit has improved. The simple act of buying a home and making mortgage payments can boost your credit score, and you’re also paying down interest and earning equity at the same time.
You can Improve Your Credit
Many people with bad credit could improve their credit reports just by disputing erroneous negative charges, correcting information on a credit report and paying down a few credit card balances. You don’t have to have pristine credit to show a decent credit history. Just cleaning up your credit a bit can improve your score and qualify you for better home purchase financing.
Evaluate your Credit Reports to Prepare for Mortgage Financing
Your credit reports are the cornerstone upon which mortgage financing is built. A good credit report is adequate to obtain financing, in many cases; a great credit report is even better. Credit reports form a large part of the basis on which mortgage companies decide whether or not to extend mortgage financing. What are credit reports, and how do they influence your mortgage financing options?
Credit reports come from three major reporting agencies.
Credit reports are basically credit histories compiled and scored by three major credit reporting agencies: Experian, Equifax and TransUnion. You can obtain copies of your credit reports directly from these reporting agencies, typically for a fee.
You can also sign up for credit monitoring, which may enable you to view your credit report and FICO score at any point; check individual credit monitoring services for details. Credit monitoring does come with a fee, but it can also serve as an early warning system for identity theft, so it can be a worthwhile investment.
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Order your credit reports from all three credit reporting agencies.
You never know which agency a mortgage finance company uses, so you should pull copies of your credit reports from all three credit reporting agencies for evaluation. When you order a credit report, you don’t typically get your FICO score included; you may have the option of paying extra to see your FICO score.
When you examine your credit report, you’ll see several different sections. One section lists all of your current accounts, your payment status on each and typically your balance and credit limit. Another section lists contact information, including current and prior addresses and phone numbers. Other sections list inquiries, which show up when you apply for credit and loans, and a final section lists collections and public records, such as judgments and liens.
You may find that different agencies reflect different accounts; some creditors only report to one or two bureaus or don’t report at all, so you never know what you’ll see until you look.
Alternative Financing can Expand Your Options
If you’re worried about traditional financing, there are plenty of alternative financing options that can help you purchase a home. Things like owner financing, lease-to-own programs and other alternative financing options can help people with bad credit get a head start on home ownership. If you want to own a home, examine your options – don’t just assume you can’t buy because you have bad credit.
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Will Credit Inquiries Drive Down My Credit Scores?
A lot of people are under the impression that pulling a credit report automatically decreases your credit scores. Not necessarily! There’s a lot of misinformation out there about this topic, so let’s set the record straight. Credit inquiries don’t necessarily lower your credit scores, excessive credit inquiries do. As long as you do your shopping the right way, a few inquiries will have little to no impact on your scores.
The reason credit inquiries are considered as a part of your credit scores is because they can indicate desperation for credit if there are a lot of them. People that shop aggressively for credit are often under financial distress, so the credit bureaus want to take this into account in their scoring algorithms. It’s typically not a problem to shop a few different lenders for a car loan or mortgage, but the key is to keep the number of inquiries reasonable and get your shopping done within a few weeks to a month.
The idea is to finish your shopping done in a relatively short period of time and the inquiries will be counted only as one for scoring purposes by the credit bureaus. The credit bureaus understand that many people will want to shop around for the best deal, so they’re not going to penalize you as long you’re keeping the inquiries reasonable and getting your shopping done in a reasonable time frame.
Even if multiple inquiries do pull down your scores a bit, it’s not going to hurt your chances of getting good financing if your scores are good to begin with. In the mortgage lending world, credit scores from 740 to 850 (the maximum) all generally get the same deal anyway. If a few inquiries drop you from 790 to 780, for instance, it’s highly unlikely it will impact the terms of a loan offer.
The bottom line is that a few credit inquiries here and there probably aren’t going to hurt your credit scores. Feel free to shop around to make sure you’re getting the best deal possible, but keep it reasonable and get it done within a few weeks’ time.
Cards Could Be Hurting Your Credit Scores Even If You Pay Them on Time
If you have a lot of credit card debt, you could be doing some serious damage to your credit scores even if you’re never late on a payment. Credit utilization, or debt-to-credit, is an important element of how the credit reporting agencies calculate your credit scores, so it’s important you understand how it works and manage your credit profile accordingly.
What is Credit Utilization?
Credit utilization, or debt-to-credit, is the portion of your available credit that you’ve borrowed. For example, if you have a $10,000 balance on a credit card with a $12,000 credit limit, your credit utilization for that card is high. If you owe $2,000 on a credit card with a $10,000 limit, then your utilization for that card is very low.
The credit reporting agencies take credit utilization into account because it helps indicate whether you’re stretched financially. If you have high balances to limits on all your credit cards, you will look “maxed out” to the credit bureaus and it’s likely your credit scores will suffer – even if you make all your payments on time.
How Credit Factors Are Weighted
The credit bureaus evaluate a variety of factors when calculating credit scores, but some factors are given more weight than others. Check out the following from MyFico.com:
- Payment History – 35%
- Amounts Owed – 30%
- Length of Credit History – 15%
- New Credit – 10%
- Types of Credit Used – 10%
Credit utilization falls into the “Amounts Owed” category, which is given a 30% weight when your scores are calculated. As you can see, the credit bureaus consider a high debt-to-credit ratio a significant risk factor for your credit scores.
Keep Your Balances Low
If you use credit cards regularly, keep your balances below 30% of your credit limit at all times, even if you pay off your cards in full every month. If you happen to have a high balance on a credit card when you’re qualifying for a home loan, your scores could be dinged even though you’re going to pay off the card in full when the next statement arrives.