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Refinancing Your Mortgage When You Have Bad Credit

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

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With interest rates rising, it may not seem like the best time to refinance — especially if you have bad credit. But in many parts of the country, home values have risen significantly in the past few years, which may make a refinance worthwhile even if you’ve got some credit challenges.

Refinancing can also be a useful tool to address some of the underlying credit issues you face. Refinancing your mortgage when you have bad credit could allow you to get cash to pay off credit card debt, improve your future credit scores and lower your total monthly expense.

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By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.

Here’s a guide on why you might want to refinance now with bad credit, and how you can do it.

Refinancing to pay off other debt

One of biggest reasons to refinance when home values are going up is to access some of the equity you have built since you bought your house. Equity is the difference between how much you owe on your mortgage and the current value of your home.

With a cash-out refinance, you get a new mortgage for a greater amount than your current loan, and receive the balance in cash. You can then use that money to settle other debt and start boosting your credit score.

  • You can pay off high-interest rate credit cards. Even if you end up with a higher rate on a new mortgage, the rates on credit cards if you have poor credit are likely much higher — in some cases, as high as 26.99%. And since credit card rates are variable, they can go up whenever the market changes. If you’re only able to make the minimum payments, it will take a very long time to pay them off.
  • You can pay off large installment loans. Sometimes sudden income or employment changes can make a recent short-term installment loan a bigger burden. An installment loan is any type of loan paid back within a set period of time, like car loans and student loans. That new minivan payment may have been affordable when you were getting large bonuses at your job, but if that extra income suddenly stops, the $700 a month payment may create a strain on your monthly budget. A cash-out refinance can be used to pay off this debt, too — not just credit card debt.
  • Your balance can improve your future credit scores. A big part of your credit score is driven by how high your credit card balances are compared with the maximum you can charge, a number called your credit utilization ratio. If your credit cards are maxed out, your scores are likely to be lower. If you pay your balances down, and keep the balances low in the future, your credit scores may improve significantly.

It’s important to look at your short-term and long-term goals when considering a cash-out refinance to pay off debt when you have bad credit. You are replacing short-term debt with a long-term obligation, and starting over the clock on your mortgage. On the flip side, mortgage, student loan or car loan balances have less of a negative impact on your scores than high balances on credit cards.

There may be ways to minimize the amount of cash you take out. Try to budget to pay down or pay off credit card balances. Think about trading in a car with a high payment for something smaller or older to reduce the monthly payment.

Other reasons to refinance with bad credit

Although debt consolidation can provide a financial benefit, there are other objectives that can be accomplished with a refinance when you have bad credit.

  • Replenishing cash reserves. Cash can be taken out to create a cushion for an expected future purchase or expense, rather than using credit cards that are likely to have very high rates and payments.
  • Moving away from an adjustable or interest-only mortgage. If you currently have an adjustable rate or an interest-only payment period, you may have received notice that your payment is about to go up substantially. Refinancing to a fixed rate can give you security against large monthly payment increases in the future.
  • Renovating or upgrading your house. With bad credit, it’s much harder to get a home equity line of credit or a home equity loan. A cash-out refinance could help you do those upgrades to increase the value of your house, or take care of much needed repairs like a roof replacement or new air conditioner.

Credit union personal loans

Another source for personal loans is credit unions. In general, the rates at credit unions tend to be lower than those at traditional banks. Loan terms are often more flexible and borrower requirements less stringent.

Furthermore, consumers typically receive a more personal experience. Considering all these factors, many consumers choose to take out personal loans at credit unions over traditional banks.

  • Average rates: The APR at credit unions currently ranges from 6.49% to 18.00%. As of September 2018, the average rate at credit unions for a 36-month personal loan is 9.33%.
  • Term length: Depending on the lender, borrowers can choose terms from 12 months to 84 months.
  • Borrowing limits: Loan amounts vary among credit unions with some allowing up to $25,000 while others permit up to $50,000.

Programs available for refinancing with bad credit

Government loan programs such as FHA, VA and USDA loans will provide you with the most flexibility for refinancing if you have credit issues. Besides allowing you to get more cash out than conventional loans, they also allow for higher debt-to-income ratios, which means you can borrow more than you would be able to with a conventional mortgage.

Be prepared to provide extra documentation to offset your credit challenges. Write down a detailed explanation about what caused late payments, collections or charge offs and how things have improved, or will improve with the refinance.

  • Conventional cash-out refinance: Conventional mortgage programs will allow you to borrow up to 80% of the value of your house and have few restrictions of what you use the cash out for. If your scores are under 680, it may be difficult to get approved up to the maximum.
  • FHA cash-out refinance: The HUD-insured FHA mortgage is a government loan program that allows you to access up to 85% of the value of your home with few limits on how you use the money. FHA loans offer more flexibility for lower credit scores and credit issues, and allow for higher debt-to-income ratios than conventional loans.
  • VA cash-out refinance: Qualified military veterans can borrow up to 100% of the value of their home, and there are few restrictions on the use of the money. VA loans offer more allowances for credit issues, and can be approved for even higher debt-to-income ratios than FHA loans.
  • USDA cash-out refinance: The USDA loan program does allow borrowing up to 100% of the value of the house, but only for repair or remodeling of the home. Since the funds have to be provided to a contractor, this is considered more of a construction loan than a cash-out refinance. All of the money must be paid to contractors for the repair or construction work that is done.
  • FHA streamline refinance with and without an appraisal: After you have made six payments on time with your current FHA mortgage, you are eligible for a streamline refinance. The biggest advantage of this program is it doesn’t require proof of income, and if you are willing to pay some closing costs, you won’t need an appraisal either. The FHA streamline also doesn’t require a full credit report, just proof that your current mortgage has been paid on time the past six months. If you need to roll in costs, then you’ll need to get an appraisal.
  • VA interest rate reduction loan: Similar to the FHA program, this loan allows qualified veterans to refinance their current VA loans without verifying income and does not require an appraisal in most cases.
  • USDA streamlined assist: Allows for a refinance of the current USDA mortgage without full documentation of income, and without a new appraisal. You must save at least $50/month, and the last 12 months of mortgage payments must have been made on time.

What credit scores do lenders need to refinance a mortgage?

The credit scores needed to refinance a mortgage are not much different from what is needed to buy a house. Beyond the credit scores, lenders are still going to look at how you’ve managed your payment history on your credit report the past 24 months.

Your mortgage payment history will carry the most weight in the approval decision-making, followed by credit cards and installment loans. For example, you may have had some late payments on your credit cards, but if your recent mortgage payment history is perfect, the lender may still approve your loan.

The consequence of bad credit is a higher cost of credit. Below is a loan level price adjustment chart that is used by one of the largest sources of mortgages in the U.S., Fannie Mae, based on an LTV range of 75-80%.

Credit ScoreIncrease to the cost of your interest rate

More than 740

0.50%

700-719

1.25%

680-700

1.75%

660-679

2.75%

640-659

3.00%

Using the grid above, someone pursuing a $250,000 maximum cash-out refinance with a credit score between 640-659 is going to pay $3,125 more than someone who has a score between 680-699 if they are borrowing the maximum 80% cash out on a conventional mortgage refinance.

Below are the minimum scores for refinancing based on the different loan programs available.

  • Conventional: 620 is the standard minimum for Fannie Mae and Freddie Mac conventional mortgage loans.
  • FHA: FHA loans will require a 580 FICO score for most refinance loans. Exceptions can be made for scores as low as 500, but will require a higher amount of equity.
  • VA: Most lenders will require a 580 FICO score, although like FHA, exceptions can be made depending on the equity level.
  • USDA: Most lenders will require a 640 score, although exceptions can be made down to 580.

Shopping around for a good rate when you have bad credit

Just because you don’t have the highest credit score doesn’t mean you shouldn’t shop around for the best rate. One place to start shopping is with LendingTree’s Mortgage Refinance Rates tool (Note: MagnifyMoney is a subsidiary of LendingTree).

However, you do need to ask a few more questions with rate shopping if you have bad credit. The following steps will give you the information you need to get the most accurate quotes.

  • Get rate quotes on the same day. Much like stocks, interest rates change daily, sometimes even hourly, depending on market conditions. It’s important to set aside enough time to obtain your quotes on the same day. Besides the rate itself, you want to know about the fees. Very low advertised rates will often require higher origination and other fees.
  • Make sure you are getting quotes for the same lock periods. When you receive a quote, the interest rate is generally locked in for a certain period of time. The longer period you lock, the more expensive the rate. Be sure you are getting at least a 30 to 45 day rate quote to give enough time for the appraisal and approval process.
  • Make sure information you give lenders for the rate quote is the same. Have a checklist of information you give to all of the lenders you contact: credit score, property type, value and loan amount should be the same with all of the quotes.
  • Ask if the lenders have any extra guidelines for bad credit. Be sure to tell lenders upfront if you have recent late payments on mortgages, credit cards or other negative credit issues. It’s better to know sooner if they can’t approve your loan.
  • Ask the lender if they specialize in refinances for bad credit. There are lenders that have additional experience and investor choices for bad credit. Ask a lot of questions. If you don’t get a lot of answers or feedback, move on to the next lender.
  • Make sure there are no upfront nonrefundable fees. The only fees that lenders should require before closing are the credit report and appraisal fee. Any other fees should be payable at closing.
  • Make sure you get the quotes in writing on a Loan Estimate form: Verbal rate quotes don’t hold any weight, so be sure you are comparing your rates and fees on a “Loan Estimate” form so you can compare all the offers side by side. You can also use the written estimates to negotiate between the lenders for the best terms.

The bottom line: You can refinance even with bad credit

Before you start the process, use a mortgage refinance calculator to get an idea of what the rates will be based on your credit score right now.

You will most likely have to provide more documentation with your refinance if you have bad credit. Lenders will want more proof that your income is stable, your assets are solid, your home is in good condition, and will likely require detailed explanations of all of the negative items on your credit report.

If at first you don’t succeed, try another lender. Not all mortgage lenders have access to the same programs, so getting turned down by one mortgage company doesn’t mean you won’t be able to get approved.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.

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Mortgage

Making the Most of Today’s Minimum Mortgage Requirements

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

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The past several years house values have increased in many parts of the country. Median incomes in the United States have also risen the past four years in a row. If your income is heading higher, or you’re noticing houses are selling for more in your neighborhood, you may be thinking about buying a home, or accessing some of the equity in the house you currently own. The biggest factor that will drive your interest rate and monthly payment will be your credit history.

See Mortgage Rate Quotes for Your Home

See RatesSee RatesSee RatesTerms Apply. NMLS ID# 1136

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.

Buying or refinancing with bad credit can be challenging, but there are ways to overcome those credit issues if you understand how lenders look at all the parts of your loan application when determining your ability to repay a mortgage loan.

What lenders look at if you are buying a home

  • Down payment: This is the amount required for you to “put down” in order to buy the home. The more you put down, the lower your mortgage payment is. Jump ahead for more details on down payments.
  • Debt-to-income ratio (DTI): There are two ratios mortgage lenders look at. Your front-end ratio is your monthly payment on your home divided by your gross income. Your back-end ratio takes all your debt — such as student loans, car loans, credit cards and other monthly debt, as well as your new mortgage payment — and divides it by your gross income. The back-end ratio is the one that has the biggest effect on your loan approval. Jump ahead for more details on DTI requirements.
  • Credit score: In order to determine your interest rate, loan costs and monthly payment, most mortgage lenders will access credit scores from three credit bureaus, and in most cases take the middle of the three scores. The most common credit bureaus used for mortgage credit scoring are Experian, Equifax and TransUnion. Jump ahead for more details on credit score requirements.
  • Type of property: Condominiums, co-ops, manufactured homes and multi-unit properties have different lending requirements. It’s important to let your lender know if you are buying this type of property, as it will affect your ability to qualify, your interest rate, how much down payment is required and the DTI requirement. In some cases, the property itself will have to go through a separate approval process to make sure it meets the lender’s “project” guidelines.

What lenders look at if you are refinancing a mortgage

  • Credit score: Much like a purchase loan, your credit score will determine your interest rate and how much you can borrow compared to the value of your home. Jump ahead for more details on credit score requirements.
  • How much equity you have: This is determined by the difference between your current mortgage and the value an appraiser gives your home at the time of your refinance. For example, if you have a $250,000 mortgage and your home appraises for $300,000, you have $50,000 in equity. How much equity you can borrow depends on your credit score, the loan program you are eligible for and your debt-to-income ratios. Jump ahead for more details on borrowing limits.
  • Debt-to-income ratio: Lenders look at the same ratios as they do for purchases. If you are taking equity out of your house with a cash-out refinance, lenders may have stricter requirements for your max DTI to make sure you aren’t borrowing too much compared to what your current monthly payment is, especially if your credit scores are near the minimums. Jump ahead for more details on DTI.
  • Type of property: Condominiums, co-ops, manufactured homes and multi-unit properties will not allow you to take out as much cash. Property type may affect your ability to qualify because of stricter requirements for approval, higher down payment requirements and, often, higher interest rates.

What is the minimum down payment to get a purchase mortgage?

Many people mistakenly believe that the changes to the mortgage market made it necessary to save up 20% to buy a home. Lenders have been gradually easing guidelines, and there are a number of programs that allow for a little as 0% down payment.

  • Conventional: Most conventional mortgage programs require at least a 5% down payment. This can be from your own savings, a gift from a relative or a combination of the two.
  • FHA: The HUD-insured FHA mortgage requires 3.5% down and allows for credit scores down to 580. It also allows for down payments from gifts.
  • VA: Qualified veterans can purchase a home with 0% down with verification that their service meets the requirements for the VA home loan guarantee. If you are a veteran, you can determine your eligibility for VA financing by clicking on the certificate of eligibility for a home loan link.
  • USDA: This rural loan program allows for as little as 0% down financing on eligible properties. You can use the online USDA property eligibility tool to find qualified homes.
  • HomeReady®/HomePossible®: Both of these conventional loan programs allow for down payments as low as 3%.
  • Down payment assistance: Government grants, municipal bond programs and income-based housing assistance may be available depending on your income and where you are buying. It’s best to contact your local government housing or nonprofit housing agencies to find out what might be available.

What is the maximum I can borrow for a cash-out refinance mortgage?

  • Conventional: Conventional mortgage programs allow you to borrow up to 80% of the value of your home and don’t restrict what you use the cash out for.
  • FHA: The FHA mortgage is a government loan program that allows you to access up to 85% of the value of your home and does not restrict how you use the cash out.
  • VA: Qualified military veterans can borrow up to 100% of the value of their home, and there are no restrictions on the use of the cash out.
  • USDA: The USDA loan program does allow cash out up to 100% of the value of the house, but only for repair or remodeling of the home. Since the funds have to be provided to a contractor, this is considered more of a construction loan than a cash-out refinance. All funds must be paid to contractors for the repair or construction work.

What is the minimum income needed to get a mortgage?

While most people assume their credit is the most important factor in getting approved for a loan, debt-to-income ratio has the biggest effect on a lender’s decision to make a loan. Lenders look at the total amount of debt plus your mortgage payment divided by your gross income very seriously to make sure you will be able to repay your mortgage.

  • Conventional: The standard qualified mortgage guideline is 43% DTI (back end), although many lenders approve borrowers with a 50% back-end DTI with additional compensating factors (there’s more on that in the next section).
  • FHA: The back-end ratio guideline for FHA is 43%, although loans are approved over 50% with additional compensating factors.
  • VA: VA does not have a maximum qualifying debt ratio, but rather a residual income test borrowers must meet in order to qualify for a loan. This calculation is based on a veteran’s family size and varies by location. The calculation starts with after-tax income and subtracts all debt and a maintenance-and-utility calculation based on the size of the home. If the veteran meets the requirement, the loan can be approved, even with very high debt ratios.
  • USDA: Front-end/back-end DTI maximums are capped at 29%/41%, with exceptions to 32%/44% with compensating factors.
  • HomeReady/HomePossible: The guideline maximum back-end DTI is 50% based on automated underwriting guidelines. The HomeReady program has income limits, but the HomePossible program does not. Be sure to check with your loan officer for the income limits in your area.
  • Down payment assistance: The DTI requirements vary by state and program, so it’s best to contact your local nonprofit or government housing agency to find out what they are in your area.

What is the minimum credit score to get a mortgage?

Many current and aspiring homeowners are surprised to learn that they can get approved for mortgage financing with scores as low as 580 and very little down payment. They are equally as surprised by how much more the monthly payment and closing costs are as a result of their low credit scores.

Refinancing with bad credit costs a lot more in the short and long run — the more you borrow compared to the value of your home, the higher the interest rate is going to be, and the more you’ll pay over the life of the loan. It’s very important to do a cost-benefit analysis with your mortgage loan officer to discuss the financial goals you are trying to accomplish with a refinance, especially if you have bad credit.

Below is a graph showing the effect of credit scores on interest rates for consumers who received loan offers through the LendingTree marketplace in October 2018. (LendingTree is MagnifyMoney’s parent company.)

FICO RangeAverage APRAverage Down PaymentAverage Loan AmountAverage LTVLifetime Interest Paid*

All Loans

5.35%

$59,974

$239,260

82%

$232,857

760+

5.20%

$77,531

$251,149

79%

$225,009

720-759

5.26%

$56,552

$230,775

83%

$227,855

680-719

5.50%

$38,486

$212,562

86%

$240,397

640-679

5.87%

$69,559

$199,357

75%

$259,714

620-639

5.96%

$59,151

$191,106

77%

$264,351

*Lifetime interest paid is calculated based on the overall average loan amount to enable comparison.

Even though borrowers with scores as low as 620 received mortgage offers, the amount of interest paid went up $23,954 for the life of the loan versus borrowers with scores of at least 680.

The minimum credit score requirements for purchases and refinances are the same. Some lenders may require higher minimum credit scores if they don’t specialize in a certain kind of mortgage program (like an FHA or USDA loan), so be sure to shop around if you are being told that your scores are too low for a particular type of mortgage loan:

  • Conventional: 620 is the standard minimum for Fannie Mae and Freddie Mac conventional mortgage loans.
  • FHA: FHA loans will require a 580 FICO score for most purchase and refinance loans. Exceptions can be made for scores as low as 500, but these will require higher down payments for purchase loans, and a higher amount of equity for refinances.
  • VA: Unlike the other programs listed here, the VA does not have an actual published minimum credit score requirement. Most lenders will require a 620 FICO score, although like FHA, exceptions can be made for borrowers with higher down payments or more equity.
  • USDA: Most lenders will require a 640 score, although exceptions can be made down to 580.
  • HomeReady/HomePossible: This program requires a 620 score minimum, but some lenders may require higher score limits.
  • Down payment assistance: Most down payment assistance programs will require at least a 640 credit score, but you’ll want to check, as the guidelines for these programs change frequently.

Ways to overcome credit score weakness: compensating factors

If you’ve been told that you have a low credit score, take heart: Lenders look at more than just your credit score when making mortgage loans. There are a number of things that you can provide to compensate for a weak credit history, and many lenders are willing to take a second look at a loan application they initially rejected if you can provide proof of some of these items.

Keep in mind that lenders are looking at what they call “layers of risk.” That means if you only have one layer — bad credit — but have other good layers, like a stable income and savings, you may still be able to secure approval.

Lower debt-to-income ratios and long-term job stability: If you are able to borrow below the maximum debt ratios, and have at least two years in your current job, you will have a better chance of getting approved, even if your credit scores are near the minimums. This might mean you have to buy a little bit less of a home, so keep that in mind if you are starting the house-hunting process knowing you have some credit problems.

Extra reserves and savings: Extra savings, in addition to other retirement savings, can help offset a bad credit history. These are commonly referred to as “payment reserves” and show the lender that if you had to, you could use these funds to pay your mortgage for a certain time period after closing. Be sure to provide all of the assets you have — that cash-value life insurance policy your grandma got you when you were 18 may come in handy, and any 401(k)s can be used toward a reserve requirement (they don’t have to be liquidated).

Having your own down payment versus a gift of down payment assistance: If you can save your own down payment, it will help show you have already made a financial commitment toward the house.

Minimizing credit use 60 to 90 days before you apply for a mortgage: Hold off on buying that brand new car, and limit your credit use to small purchases on credit cards for 60 to 90 days before you apply for a mortgage.

Credit repair: There are a variety of credit repair companies that can help you, but it may take three to six months, and there is usually a monthly cost involved. Some lenders may suggest rapid rescoring — especially in cases where you may have paid down a balance recently, but it hasn’t reflected on your credit report yet. This allows for corrections to your credit card balances that are reflected within five to seven days, instead of the normal 30 to 60 days it may take a credit repair company to correct the information. As with any financial product, be sure to shop around.

Are there other options for refinancing or buying with bad credit?

If you aren’t able to get a mortgage using the compensating factors outlined here, there are lenders that are beginning to offer programs referred to as “non-QM,” ”non-Dodd Frank” or “alternative” loans.

They allow for borrowers who have had major credit events like recent foreclosures or bankruptcies to borrow money at much higher rates. In most cases the down payment requirement is at least 10%, but usually up to 30% for very low credit scores. For refinances, you’ll be capped at much lower maximum loan amounts, which means less cash back to you.

Be sure to discuss an “exit” strategy with your loan officer if you decide to get this type of loan, so that you can be in a more traditional program with a refinance or pay the entire loan off within a couple of years.

Be sure to get second, and third, opinions

There are many different lenders offering a variety of programs to overcome credit challenges.
Before you apply, compare mortgage offers online so you can see what your payment will look like based on your current credit score.

Whatever your situation, be sure to explain all the details to your mortgage professional, and be prepared to provide supporting documents. If you can show that you understand what caused the credit issues and provide proof of the other good things going on with your income and assets, a lender may be willing to consider your refinance or purchase mortgage application for approval.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.