Why Bad Credit Hurts Your Chance of Getting a Mortgage

Lenders are in business to make money. When they loan money, they expect it to be paid back on time. In exchange, they charge interest for assuming that risk.

If a borrower defaults on a loan, it can negatively impact a lender’s bottom line, which is why they must assess risk when lending.

Since mortgages are large loans that often equal hundreds of thousands of dollars, lenders have to be particularly careful. Borrowers who present a high risk of being unable to pay loans can significantly damage business. What does this often result in? The rejection of loan applications from borrowers with bad credit.

What exactly is “bad credit”? That depends on the situation, but some say that even having a score below 640 could be enough to result in rejection for a home loan.

Several factors go into a credit score, such as:

• Payment history
• Unused credit
• Income
• Debt load
• Defaults
• Bankruptcy

While you may be stable in one area, another may be keeping your credit score low. Depending on the severity of the issue, you could be looking at years before making your credit score presentable to home lenders.

Does this mean rent is your only option for the foreseeable future? Not at all, as long as you use one of these options for buying a house with bad credit.

Get a private loan or a cosigner

Getting rejected for a home loan from a bank, credit union, or other commercial lenders can be a tough pill to swallow. It may not be your only way of getting that loan, however.

You may have family who could help with the cash you need to have a larger down payment at least. The bigger the down payment, the less you’ll have to borrow from an official lender. The less you borrow, the less risk you present, and the more likely you are to get the loan.

Of course, asking for a loan from friends or family can be uncomfortable or awkward. Think it through before making the move, and make sure you’ll be able to pay them back according to an agreed-upon schedule.

When asking for a private loan, you may also want to ask if they will be willing to cosign for you. Provided the person has a reliable income and good credit, this could help you secure the mortgage.

Having a cosigner does involve risk, though, if you do not make payments on time. You will have to convince them that you will not leave them on the hook for the loan in case of an emergency, which could be a tough task.

Start saving

If a private loan for a larger down payment is not on the table, start saving your own money to achieve that goal.

Look at your monthly expenses. Chances are, you have several that could be reduced, especially when it comes to entertainment or dining.

Do you have an extra car that’s collecting dust? Sell it for cash that can be used for the home’s down payment. You could also sell used items online or increase your income via a raise, a second job, or side gigs.

Your goal should be to have a down payment that’s equal to 20% of the purchase price of the home. Doing so will increase your chances of loan approval. In addition, you can get lower monthly payments since putting that much down can eliminate the need for private mortgage insurance.

Apply for an FHA mortgage

The Federal Housing Administration (FHA) offers mortgages to people with less than ideal credit. For example, you could get an FHA loan if you:

• Make a down payment of 3.5 percent of the home’s total value and have a credit score over 580
• Make a down payment of 10 percent of the home’s total value and have a credit score below 580