You’re Not The Only One Ready To Become a Homeowner
We’ve heard it time and time again, “is it possible to become a homeowner with bad credit?” Are there any loans out there that can help individuals like me become a homeowner? Maybe you’ve made some mistakes in the past that hurt your credit, or maybe you weren’t prepared for life’s unexpected expenses and your credit took a hit; whatever the case may be, bad credit shouldn’t stop you from becoming a homeowner. Contrary to popular belief, you don’t have to have a perfect score to be able to purchase a home, in fact there are plenty of loan and housing options out there, designed for consumers just like you. However, it seems like the majority of people have given up on becoming homeowners and have allowed their bad credit to dictate what they can and can’t do.
Remember, bad credit doesn’t have to be permanent, let alone stop you from achieving the dream to become a homeowner. According to a survey conducted by Bankrate, 74% of Americans place owning a home as the highest priority, compared to things like being able to retire, having a successful career, owning a vehicle, having kids, even earning a college degree; sadly, 22% of those surveyed believe their bad credit it stopping them. Wouldn’t you like to be able to live life to the fullest, including becoming a homeowner, all while improving your bad credit situation? Of course, you’re probably thinking, this is all easier said than done and you’re not wrong; fixing your credit takes time and so does becoming a homeowner, but it can be done.
What’s Considered a Bad Credit Score?
First things first, we have to see where your credit score stands, but we’re not just looking at any scoring model, we’re looking at your FICO score. While VantageScores are important in certain situations, when it comes to home lending your main focus needs to be on older FICO scoring models like FICO score two, four, and five; the model used really depends on the credit bureau that credit report is being pulled from. For instance, if your lender is pulling their information from Experian, then FICO score two is examined; if your report is pulled from Equifax, then FICO score five is reviewed; lastly, if your credit report comes from TransUnion, then FICO score four is used.
Did you know that 90% of the top lenders use your FICO score to determine whether they’ll extend or deny you a new line of credit? With FICO being the most trusted score it’s important to know whether your score is considered a risk or is deemed creditworthy; remember, credit scores range between 300 to 850. Credit scores between 300 and 600 are considered very poor to poor and they tend to be the ranges that lenders become the most hesitant around; remember their job is to avoid risk, so the higher your score, the better off you’ll be. Typically, most conventional home loans require you to have a minimum credit score of 620, but there are some that give lower credit score holders the opportunity to still become homeowners.
- Score Ranges
- Very Poor: 300-499
- Poor: 500-600
- Fair: 601-660
- Good: 661-780
- Excellent: 781-850
Option 1: VA Loan
While the VA loan is a great option if you have bad credit and are tight on funds, it’s not available to everyone; this loan is available to eligible veterans, current service members, and surviving spouses. The major advantages to using a VA loan, compared to traditional/conventional mortgages are that you don’t have to make a down payment, interest rates tend to be lower, there’s no monthly mortgage insurance required, and there’s no specific minimum credit score; however, keep in mind that terms vary depending on your lender.
There are a couple other requirements that need to be met, before you’re approved for a VA loan.
- You need to have served at least 181 days of active service during times of peace.
- 90 consecutive days of active service during times of war.
- You’ve served more than 6 years in the national guard or reserves
- If you’re the surviving spouse, then you qualify if you didn’t remarry after losing your partner.
- If your spouse is missing in action (MIA) or becomes a prisoner of war (POW) for more than 90 days.
- For those former service members/veterans, you’ll need to have your DD214 that verifies that you’ve been discharged.
These are only a couple of requirements that have to be met, but it’s always best to do your research and see if you qualify for a VA loan. Also, keep in mind that while you may not have to have great credit or a down payment, you’ll more than likely have to cover funding fees, reserve fees, have a reasonable debt-to-income ratio, and verify whether your lender will finance the property you’re interested in buying.
Option 2: FHA Loan
Whether you’re a first time home buyer, have bad credit, or a mixture of both, FHA loans could potentially be the right fit for you because the credit requirement is lenient and so is the down payment amount. In fact you could have a score as low as 580 and still be approved for an FHA loan; however, keep this in mind, if you have a credit score of 580 and above, then you’ll only have to put 3.5% down; if you have a credit score between 500 and 579, then you’ll have to put at least 10% down.
While an FHA loan is great if you credit is low and you’re on a tight budget, it won’t be the right fit if you’re trying to use it as an investment property because it has to be bought with the intention of using it as a primary residency. Also, keep in mind that you’ll also have to pay private mortgage insurance; you can’t win them all, right? Lastly, lenders are typically looking for a debt-to-income ratio of no more than 43%, as well as proof of employment and steady income.
Option 3: USDA Loan
USDA loans are backed by the United States Department of Agriculture and the goal is to help develop more rural areas, all the while being able to provide housing to low-income families. Contrary to what the name may suggest though, you don’t have to live out in the middle of nowhere to qualify for this loan; in fact, USDA loans can sometimes be used for suburb housing. Once again, if you’re struggling to save up for a down payment, or your credit isn’t the best, no worries because you don’t have to put any money down and you only need a 640 credit score. You’ll also need to be able to verify that your income and employment have been steady, as well as having a debt-to-income ratio of 41% or lower.
While this loan might be the perfect fit for you, just know that you’ll have to pay private-mortgage insurance; you have to make less than 15% above the average income in the area, and your monthly payment cannot exceed more than 29% of your monthly income. We don’t want to discourage you from considering this type of loan because they’re extremely helpful for those individuals who can’t secure a conventional loan; obviously just know that they do come with restrictions.
Option 4: Conventional Loan
Conventional loans, also known as conforming loans, simply meet the requirements set by Fannie Mae and Freddie Mac mortgage companies; in other words, “they play by their rules.” In order to qualify for a conventional loan, you typically need to have a credit score of at least 620, have a debt-to-income ratio of 50% or less, and purchase a property that’s no more than $647,200; of course these are just guidelines, but every individual’s situation differs.
Option 5: Rent-to-Own Homes
Unlike all of the previous loans mentioned, rent-to-own homes takes a different approach to becoming a homeowner; it’s sort of like a detour if you will, but one that gives you the opportunity to fix your credit, save money, and “test out the home.” The way it works is that investors will buy the home of your choice, rent it to you for approximately one-to-three years, and at the end of the rental period you’ll have the option to buy the property. In order to qualify for this housing option, you’ll need a 580 credit score or higher.
Usually, there’s an upfront fee, also known as an option fee, that ranges between 1% to 5% of the home’s value; you’ll put down this amount, so that later on down the line you can exercise your right to buy the property. If you choose to buy the property later on down the road, then sometimes you won’t have to worry about making a down payment because typically a portion of your rent be set aside for that. This is why we mentioned that throughout the course of your rental period you’ll have the chance to save money for a down payment and since you’re not having to finance a mortgage right off the bat, you can work on improving your credit for when that time does come.
The best thing you can do for your situation is to take your time and research your loan options; remember, when it comes to decisions such as these, you don’t want to rush into anything. Make sure that you’re aware of where your credit stands, the requirements for each loan, what options fit within your budget, and most importantly what’s best for you.