Ah, the dream of homeownership—a shining beacon on life's horizon. But for many, the hurdle…
With home prices continuing to rise, are you anxious that your credit score might not allow you to buy a house?
Worry no more because credit scores are not the end-all-be-all of mortgage applications. You could even get approved without an existing FICO Score if you are willing to undergo manual underwriting.
The world has indeed become a scarier place due to the ongoing COVID-19 pandemic. But because life goes on, we still have to face our own realities and make good on our responsibilities. For some, it might be better to delay the decision to buy a new house. But, for others who are not as lucky, it is a necessity that can no longer be avoided.
Do you want to know if your credit score will get you approved for a mortgage? If it can’t, what can you do to boost your credit? But if it can, what kind of home loan can you get, and what are its features?
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Credit Scores vs. Debt-to-Income Ratio
When you say mortgages, people automatically think about credit scores, but it’s not the only factor that will affect your home loan chances. Another thing you have to think about is your debt-to-income.
Credit scores determine the risk you bring as a borrower when you take out a loan. Typically, the lower your credit score, the fewer options you can have and the lower loan amount you can get. This makes sense when you think that lower credit scores can result from foreclosures, bankruptcies, or delinquencies. It’s hard to give more trust when someone already has this kind of credit history.
To qualify for a mortgage, you will want to show mortgage lenders that you are deserving by at least meeting their minimum credit score requirements. It’s the first basic hoop that you have to go through. The next important hurdle you need to get across is your Debt-to-Income (DTI) ratio.
To pay a debt, you need to earn money, and most of us already have existing debt anyway. Without this prior financial relationship, we wouldn’t be able to generate a credit score. Now, when you apply for a mortgage, lenders will want to know how much debt you already have and how much income is actually left every month after you pay your bills. This percentage of debt is called your DTI ratio.
Just as every lender and the home loan have minimum credit score requirements, lenders will also have their own DTI preference. If you are getting the help of a broker to get a mortgage, you can be informed of your ratio beforehand. But in the meantime, there are helpful tools online where you can compute for it yourself.
Home Mortgage Credit Score Requirements
When we say a low credit score, first of all, what do we mean by low?
According to the FICO Score range, good credit scores start at 670, so anything below 670 is already considered bad credit. But if we’re talking about Poor credit scores, these fall from 300 to 579.
It might surprise you to know, but even with a Poor credit score, there are still some mortgage loan options that will help you buy a house.
If you want to buy a house in a less populous area, you might not even have to worry about a minimum credit score.
The U.S. Department of Agriculture (USDA) can guarantee loans for rural parts of the country without even asking you to make a down payment. In addition, there’s no minimum credit score required if you can pass manual underwriting. You can find out through this map if your target location is eligible.
The lowest credit score you can have that can help you avail of a Federal Housing Administration (FHA) loan is a FICO Score of 500. With this minimum credit score, you have to make a 10% deposit on your new home. If you have a FICO score of 580 or higher, however, you have the option to make as low as a 3.5% down payment.
FHA loans seek to help first-time homebuyers buy their first houses faster, and they do this by allowing you to raise your down payment money from other sources. You can approach down payment assistance programs, and you can even accept gifted funds from family or friends.
On the other hand, if you have a score of 620 or better, you can be allowed to make as low as a 3% down payment via a conventional mortgage. Fannie Mae and Freddie Mac regulate these, but the federal government does not insure them.
If you can make a down payment of at least 20 percent, you won’t have to pay for mortgage insurance.
There’s a good chance you may not be eligible for this last one because VA loans are exclusive to our service members. But, unfortunately, this is definitely the best government-backed loan you should choose.
Aside from military service, you also need to have a credit score of 640. Since the Department of Veterans Affairs guarantees this loan, mortgage lenders are very generous when it comes to loan amounts and interest rates. You also don’t have to pay for mortgage insurance or make a down payment. Instead, a VA funding fee starts at 2.3% of the amount you are borrowing.
The Lowest Minimum Credit Score
FICO Scores start at 300 and end with 850, which is the highest value on the scale.
Realistically speaking, you can’t really qualify for a mortgage with a FICO Score of 300. Only less than 1% of consumers actually have a credit score this low. You would be more likely to have a 500 credit score or higher.
Unfortunately, even though FHA loan lenders should, in theory, approve you if you have a 500 credit score, it can also be very tough to find a mortgage lender who would be this willing. Unless you can make a significantly higher down payment amount or you have a meager DTI ratio, you might not even get an offer on the table.
Say you want to buy a $500,000 house. Ideally, 500 is the lowest FICO Score that will let you get the ball rolling. With this credit score, you might either get a USDA loan or an FHA loan. For a better ballpark figure that will give you a higher chance of getting approved, you will want to have a Good FICO Score, which starts at 670. The more money you want to borrow, the higher you need to raise this minimum credit score.
Improving Your Credit
You might be thinking, “Hey, you told me not to worry, but if there are many lenders who define their own requirements, how do I really know my chances?”
To understand your credit score, it is necessary to acknowledge that it serves as an indicator for mortgage lenders. It also tells you, the borrower, if you are ready to take on another responsibility. After all, home loans are no joke! The hard part actually comes only after you qualify for a loan because those monthly payments will continue for several years into your future.
First, ask yourself if it is really time to get this mortgage loan or you can afford to delay it to improve your credit score.
If it is the latter, increasing your credit before you apply will definitely be worth it. Even if you stood to wait a single month, you might already see a significant change. There is only a 40-point difference between a 580 credit score and a 620 credit score. If you aren’t eligible for a VA loan, conventional loans will be your best bet.
Check your credit report and see if you can do the following:
- If you have credit cards, are you using more than half of your credit limits? As much as possible, your credit utilization should be an average of 30% of your combined limits.
- If you don’t have a credit card, are you willing to apply for one? Credit scores are all about your credit history, so you will want a credit card to appear in your credit report to beef yours up.
- If you don’t want your own credit card, is there someone you trust who’d be willing to take you on as an authorized user? As an authorized user, you won’t even have to charge your friend’s credit card expenses. As long as you are listed as an authorized user, their good credit points can start showing up on your own report, which will, in turn, pull up your own credit score. It goes without saying that this friend or family must have a much higher credit score than yours.
- If you do have a lot of responsibilities, are you able to pay your bills on time? It is of paramount significance that you don’t make any late payments before applying for a mortgage. These are red flags for the lender. When we say late payments, these are only considered late if they were paid 30 days after the deadline. These are much harder to remove from your report and can heavily impact your score.
Don’t beat yourself up if you think your credit score is too low! If you actually have a credit score, that’s already time on your side because, without one, you’ll have no choice but to go through manual underwriting, which can take ages.
You also have to give as much importance to your DTI, income, and employment stability because these will really matter to your application.
Remember, when one door is closed, another is opened, and the sky is the limit when you are willing to look for more opportunities!