My Credit Score is Too Low to get a Mortgage

 

8646816 - several people with bad credit scores on their heads behind the words bad credit

Having a low credit score is tricky to overcome if you are trying to buy a house.  The issue is not the low score per se, but the derogatory accounts on your credit report that have caused the low credit scores. And dealing with these accounts can become expensive depending on the amount of debt you have.

  • It’s tough to get a house with charge offs on your credit report.
  • It’s tough to get a house with an auto repossession on your credit report.
  • It’s tough to get a house with judgments on your credit report.
  • It’s tough to get a house with a foreclosure on your credit report.
  • It’s tough to get a house with a bankruptcy on your credit report.

The mitigating factors to bad credit are 1) the length of the time the accounts have been on your credit and 2) if you are making payments or have a payment plan on any of these accounts.

Why Lenders Care about These Accounts

Once you have a delinquent account, charge off, repossession etc., it’s possible for the creditor to pursue legal action against you. You get a summons, you and the creditor go to court, and a judgment is made either for or against you. If that judgment is made against you the creditor can take the legal action a step further and pursue collection of the debt. This will occur if you receive a default judgment for not showing up as well.

Collection of the debt can come in two forms; a lien against personal or real property (your house) or wage garnishment. Either way, the mortgage lender has something to lose. If the creditor gets a lien against your real property then that debt is attached to your house. In other words, the debt is attached to the lender’s collateral. If the creditor gets a wage attachment against you, that could compromise your ability to pay your mortgage.

Mitigating Factors of Debt

One of the reasons the length of time is a mitigating factor is because of statute of limitations.  Once the statute of limitations passes the creditor can no longer pursue legal action against you. But, lenders still see your outstanding debt. You can imagine the lender’s hesitancy on lending to you for a mortgage. This makes you not worthy of credit.

Judgments do not go away. They expire, but are renewable.  And, if a creditor went through the trouble of getting the judgment against you, they will likely renew the judgment. Creditors retain lawyers and legal aids to keep up with judgement.

If the debt is relatively new, within 3 years, making payments will help. Paying down the debt will lower your used credit compared to your available credit. Once debt gets old it starts to affect your credit score less. However, mortgage lenders will want to see these debts settled.

For some credit repair tips look at this post on credit repair posted here.

Lenders that Work with Low Credit Score Borrowers

The two great options to buy a house with bad credit are:

  • The Federal Housing Administration (FHA) loans.
  • Neighborhood Assistance Corporation of America (NACA) program.

These two organizations will allow you to buy a house with a lower than normal credit score. But, they are going to want to see some sort of payment plan or remediation of the derogatory items. This means, you can’t buy a house tomorrow even through these wonderful programs.

The graph below represents the waiting period requirements for buying a home after you have had a significant derogatory event. The chart lists the most popular loan guarantors; Fannie Mae, Freddie Mac, Federal Housing Administration (FHA), Veterans Affairs (VA), and the United States Department of Agriculture (USDA).

waiting-periods

Conventional Loans

Fannie Mae and Freddie Mac require a minimum credit score of 620 to guarantee a loan. Depending on how low your credit score is getting a convention loan is likely not an option. For the purposes of this article we will not go into the requirements of conventional loans.

FHA Loans

fha

Although FHA allows credit scores down to 500, most FHA lenders will not make loans for buyers with less than a 580 credit score. Even if your credit score is above 580, FHA requires remediation of delinquent accounts before purchasing a home. The good thing about FHA is it doesn’t matter if your credit score is 580, 619 or even 720.  The interest rate will be the same. FHA interest rates are not determined by credit score, but rather you’re ability to qualify for the program. Different FHA lenders will offer slightly different interest rates. But, the rates offered by the lender will be the same for every score.

Delinquent Account Status for FHA Loans

58981128 - 3d illustration of "debt settlement" title on legal documents. legal concept.

FHA has added the below statement in reference to the status of the more common significant derogatory events.

If the total outstanding balance of all collection accounts is equal to or greater than $1,000 the borrower must resolve the accounts (e.g. entered into payment arrangements with minimum three months verified payments- paid as agreed) or paid in full at the time of, or prior to closing.

Mortgagees must document the case binder showing each account was resolved or paid in full. If the total outstanding balance of all collection accounts is less than $1,000, the borrower is not required to pay off the collection accounts as a condition of mortgage approval. FHA continues to require judgments to be paid off before the mortgage loan is eligible for FHA insurance.*

* Exception: An exception to the payoff of a court-ordered judgment may be made if the borrower has an agreement with the creditor to make regular and timely payments, and provides documentation indicating that a minimum of three months payments have been made according to the agreement. The monthly payment must be included in the borrower’s debt-to-income ratio.

Examples of acceptable documentation to support the resolution of disputed accounts or the payoff of accounts would be a letter from the creditor outlining the terms of the payment arrangements, or verifying payoff of debt, cancelled check(s), or a supplement to the credit report verifying payoff or payment arrangements.

Note: Paying “down” of balances on disputed accounts and collections to reduce the singular or cumulative balance to below $1,000, is not an acceptable resolution of accounts.” Source

Caution with FHA Loan

If you do find a lender that will accept less the 580 be aware down payment requirements are different.  You will have to put a minimum of 10% down. This down-payment along with having to clear up any accounts can add up quickly.

Clearing up the delinquent accounts to meet the FHA minimum requirements of buying a home may increase your credit score. This could bring your score up to the regularly accepted lender minimum of 580. Discuss these details with your loan officer before they run your credit.

NACA Program and Loans

nacaNACA is an exceptional program, but extremely rigorous and there will be a wait. There are some people who have given up on getting a NACA loan because of the requirements and demands of working the program. However, if you read all the features of the program it may definitely be the way to go. NACA is open to any income level and not limited to first time buyers. However, you cannot have ownership interest in another property.

The demands of the program should not scare you off. You just have to be organized and proactive when dealing with the staff. The work can definitely pay off and put you in an awesome place to get your home.

Minimum requirements of NACA

You must become NACA qualified to able to get a NACA mortgage. Being NACA qualified means working with a case working for as long as it takes. It is critical to be meticulous in this program as the slightest misstep can cause delays. If you have credit issues that cannot be resolved anytime soon NACA might be able to help.

Delinquent Account Status for NACA Loans

Like FHA, NACA requires you to address four types of debt before getting a loan:

  1. Installment Debt – Debt with fixed monthly payments, such as auto loans, student loans, child support and other loans;
  2. Revolving Debt – Debt with variable balances, and thus variable monthly payments, such as credit cards;
  3. Collections and Charge offs – Debts that a creditor has categorized as non-payment after six months of delinquency;
  • Generally, any charge-offs or collections that happened within the past 24 months must be resolved by any of the following:
  • Paid to a zero balance prior to NACA Qualification,
  • Documented settlement for less than the original balance, or
  • Incorporated into an approved payment plan with documented payments of three to twelve months.
  • Any charge offs and collections that happened more than 24 months ago rarely need to be paid off but do require a letter to explain why there is a current balance.
  1. Liens and Judgments – Debts a creditor has recorded with the courts.
  • Liens and judgments must be paid in full and documented as satisfied or released by providing the proof of release from the court or documenting an approved established payment plan.

Liens and judgments may include defaulted child support, back taxes and student loans. Even in cases where you have legitimate grievances, you may need to make payment arrangements in order to avoid future actions by the creditor. ** Some states will not close a loan when liens or judgments are not paid in full.**

NACA Program Recommendations:

When you work with a case worker, always book the next appointment before you leave. This will help move your case along faster and ensure you are getting the proper attention.  Read all about the NACA program here.

I highly suggest you check out all the features of this program and go into it with an open mind.

The Purpose of This Article

This article is to inform readers of the different programs and their features. Program features are highlighted and individuals advised of minimum requirements. However, the final decision is up to the lender. Lenders will have their own minimum requirements they are comfortable with when it comes to approving a borrower and making a loan. Although several lenders will offer conventional or FHA loan that does not mean the products will be the same across all lenders.