Whatever your got-to home buying strategy is—a cash buyer or home loan diva—we've put together…
According to the Fair Isaac Corporation, which came up with the most commonly used credit scoring system bureaus, a 600 credit score only falls slightly above the Poor range. But don’t despair; as long as you have enough money to make a 3.5% down payment on your home, you’ll be able to qualify for at least one type of mortgage that will let you buy a house anywhere in the country.
Unfortunately, this means that you don’t have many options under your belt if you only have a 600 credit score. And since we’re talking about a serious amount of money here, the best thing to do is figure out a game plan so you do not have to settle. So today, we’re going to discuss the things you can do to make the most of the credit score you have and still pay less in the long run.
Home Loan with 600 Credit Score
Your credit score is measuring tool mortgage lenders use to determine how unlikely you’ll default on your home loan. Nothing more, nothing less. While it is just a number, it does have a significant effect on our lives, especially if we fall way below where we need it to be.
With a 600 credit score, there is mostly one type of loan we can suggest. But even if you’re already eligible, we highly recommend you aim for a higher credit score so you can merely keep this as a last resort. Let’s take a look at why.
To ensure that first-time homebuyers will always have an option to fall back on, the government guarantees what they call the FHA loan.
This is a home loan insured by the Federal Housing Administration.
It is so popular (and not just for first-time homebuyers) because it appeals to borrowers with credit scores in the Poor to Fair FICO Score ranges. Just in case you are not familiar with these terms, a 300 to 579 FICO Score is Poor, while scores from 580 to 669 are in the Fair range. Strictly speaking, it’s a bad credit mortgage loan, so lenders will be taking a lot of risks accepting these borrowers, which is why this type of loan tends to have more fees and requirements.
To qualify for an FHA loan, the minimum credit score you need is just 500, which sounds really great until you find out that you need to put down at least 10% of your home’s purchase price. It gets a little better once you have a 580 credit score, although it does mean that you’re barely out of the Poor FICO Score range. Once you get to this level, you’ll be allowed to make a down payment of just 3.5 percent.
As far as down payments are concerned, many people would probably like to hear more about low down payment requirements, but the thing is, the lower your down payment, the higher you’ll owe and the more you’ll pay in interest. So you’re just generally better off with a larger down payment if you have the money anyway. But under these circumstances, if you’re going for FHA, you’re probably doing it because you can’t afford to pay a higher amount.
FHA loans do have slightly lower interest rates than other loan types. But remember, it’s not really about how high or how low an interest rate is. It’s how long you’ll be paying for a mortgage. So a higher interest rate might not be so bad if you’ll be able to pay your loan in full in a shorter period of time.
Another thing you will want to be mindful of if you decide to get a mortgage through FHA is mortgage insurance. This is not the traditional kind of insurance where you pay to protect yourself from some risk. Instead of protecting yourself, you are actually protecting the mortgage lender. And the worse part of paying for this is you have to pay until the day that you are 100% the owner of your home.
Remember, mortgages are usually for the long haul, so if you’re paying for insurance for decades, that’s a lot of money.
Home Loan with 620 Credit Score
Now, let’s say you have some time on your hands and you’re not looking to buy a house in a rush. You can make use of this period by working to increase your credit score. And let’s say, for example, that you can improve your credit by just 20 points more. So what can you do with a credit score of 620?
The opposite of government-backed loans is called conventional loans. These are basically your Fannie Mae and Freddie Mac loans which private mortgage lenders guarantee.
Unlike FHA loans, you can use conventional loans for vacation houses or secondary homes because, with FHA, you are only allowed to borrow if you’re buying a primary residence. You can also get as many conventional loans as you want, and they can apply to any location in the country.
Another difference between the FHA and conventional loan types is the latter is more available to borrowers with more experience. Whereas FHA loans are meant for first-time homebuyers with lower credit scores, conventional loans cater to a slightly higher minimum credit score. Typically, you should qualify for conventional with a 620 credit score, but this is not the norm. As a result, you’ll still find a lot of lenders with higher minimum credit score requirements.
Nevertheless, getting a conventional loan is a lot cheaper in the long run compared to your standard FHA loan, and we’ll tell you why.
Before we get into that, it is important to recognize that the FHA loan program is a good thing. Without it, a lot more people will not be able to qualify for a mortgage. That said, it is still a big money-making enterprise.
You have to remember that the people getting FHA loans either have bad credit or a higher debt-to-income ratio and sometimes even both. These are the real barometers of your financial health, so if you’re really not scoring favorably on them, that probably means you’re not yet in a good position to be borrowing money. So the more people the government can get into these FHA loans, the more people who might not really be able to afford this situation, the higher the chance of defaults. And when that happens, the federal government makes more money. It’s just the way it is.
Private Mortgage Insurance
The main reason a conventional loan is cheaper than FHA is private mortgage insurance (PMI). This really works in much the same way as mortgage insurance does for FHA loans; it protects the mortgage lender and not the borrower. But unlike with FHA, you can have the option to forgo PMI altogether. This happens if you make a 20% down payment. And if you can’t, you can still have PMI removed after paying off your mortgage a few years because once you reach 22% home equity, PMI is actually automatically taken off your monthly charges. It’s true!
Imagine the difference between paying off mortgage insurance for the whole life of your loan and skipping PMI altogether with a conventional loan if you have enough savings in the bank. That’s easily thousands of dollars!
The other reason that makes conventional loans cheaper than FHA loans is the lesser chance that you’ll go through a refinance.
What do we mean when we talk about a mortgage refinance? Essentially, when you refinance your mortgage, you’re just getting another mortgage to pay off your existing one. You’re getting this because there are probably better terms and lower interest rates this time around. Now, when you get an FHA loan, this is possibly because you have no other option. After all, you do not meet the minimum credit score requirements for other loans. But once you have this mortgage and start paying it off monthly, the ironic thing is that your credit score will actually increase.
After your first whole year of paying off your FHA loan, you might even see that your credit score is already more than good enough to qualify for a loan with a different lender. And if you do and there are just these better terms that give you a less expensive mortgage, it’s logical for you to want to grab the opportunity, which is why you refinance.
The thing is because refinancing means getting another home loan, you’re basically just applying for a mortgage all over again. You’ve already paid for the closing costs of your original mortgage, and now you’ll be paying another round of fees and charges for the same house. More than just being inconvenient, it’s just more expenses you could have skipped in the first place if you went with conventional from the start.
The truth of the matter is, a 600 credit score is still a low credit score. So you’ll be able to qualify for home loans, yes, but only if these are FHA loans (if you want your pick of any house in the country).
If you really want more options, and a less expensive mortgage, improving your credit is the only way. But it’s not all that bad! As we have explained, even if you do get an FHA loan, you’ll still have the option to go for a refinance later on, and this time, you’ll probably be able to switch to conventional.
Remember to keep this as a goal. Then, someday soon, you’ll only be looking at FHA loans in your rearview mirror. You can do it!