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How to Fix Your Credit to Buy a Home

Most of us long to own a home. We see this idealized place as our shelter in bad times. We love the thought of being able to decorate the entire series of rooms to our unique specifications. Here is our own abode, where we can plant a garden, entertain friends and raise children. Somehow, renting an apartment just isn't the same.

In several months to a year's time, you can improve your credit report and raise your credit score


Unfortunately, for many of us, buying a home is a difficult prospect because of one major drawback, a poor credit history. Bad credit almost always creates complications when trying to purchase something as big as a home.

That three-digit credit score and our credit report can make the difference between being granted a home loan and being rejected out of hand. Why? Because our credit report tells a financial story of us as payers of debt, and it has a long memory. Few people manage to go along forever without making a single financial mistake, and the fact is that many times, those people who pay cash for everything, end up with a lower credit score than those of us who juggle debt.

The worse your credit report is, the harder it will be to acquire a home loan. That is why it is imperative, before you go house shopping and long before you need to move, to study your credit report and clean it up as much as you possibly can. In several months to a year's time, you can improve your credit report and raise your credit score. Then you will have a much better chance of moving into your own home at a competitive interest rate.

A low credit score means that you will be charged a much higher interest rate when you apply for a home loan. Additionally, you will be required to contribute a much larger down payment of cash. Finally, if your score is very low, you might simply be denied altogether, although virtually every mortgage company now has special programs designed to help those with bad credit get loans for home purchases.

If you have a steady job and a steady income, if you have worked in the same field for two years or more and if you are able to put 10-20 percent down on a home, you will find your chances of acquiring a home loan greatly improved, even if you have a very low credit score. Getting a loan from the bank or credit union where you already do business is sometimes easier. There are other things you can do to improve your chances as well.

Figure out where you're at right now

If you are working to improve your credit in order to buy a home, get a copy of your credit reports from all three credit reporting agencies. Why? Because they will not be exactly the same and you need to know what is on every one. Some creditors send information to all three agencies, but some only send reports to one or two. Additionally, when a mortgage lender pulls your report to check your history, they will use the middle score from all three to decide whether or not to qualify you for a loan.

If you have not ordered a copy of your credit report in the last year, you are entitled to a free copy from all three bureaus. These will not include your credit score, however, to get that, go to www.myfico.com where you will be charged a small fee.

Make yourself comfortable and start assimilating the information on your reports. Check every single item. Verify that everything is correct, including your name, Social Security number, current and previous addresses, list of employers, debts and any public records concerning you.

You will most likely discover errors on your credit report. These errors could be dragging your credit score down. It is not uncommon for people to find errors of such magnitude that their credit score is hundreds of points less than it should be. These errors can be caused by simple mistakes, like transposing a 6 for a 5, but they can also be due to criminal identity theft. Either way, you need to know.

Now you must begin the work of cleaning up your credit report as much as you possibly can. This generally requires an exchange of letters. Keep careful notes and copies of everything you do. Send your letters via certified mail. If the credit reporting agency cannot verify the questionable information that you are disputing, they must remove it, and they only have thirty days to respond to you.

If you don't have the time to expend this effort, or you feel it is too complicated, you can easily get the aid of a reputable credit repair agency. These skilled and experienced people accomplish this kind of repair work every day, and they know how to make positive things happen.

After each questionable item is removed from your credit report, make sure to insist that the credit bureau mail you a revised, corrected copy. Now you are on the way to owning a home!

There is no instant, painless way to repair your credit, even when there are inaccuracies on your report, especially if you are struggling to save money. Plan on exercising patience with this process. The end result is worth the effort.

Why your credit score is so important

You will often see your credit score referred to as a FICO score. This three-digit number, running anywhere from 300-850, is calculated by complex mathematical equations and is used as a way to determine if you are a good credit risk.

Your credit score is determined by taking each of the following five sections of your credit report and weighting them according to a set standard.
  • Payment history: 35%
  • Outstanding debts: 30%
  • Length of your credit history: 15%
  • Types of credit you've used: 10%
  • Amount of new credit: 10%
Problems arise when your score falls below approximately 650. If your score runs beneath that number, you should expend determined effort to clean up your report and raise your score. This would include eliminating any inaccuracies on your reports, as mentioned, but also includes paying off whatever outstanding debts you can and making certain that you make your monthly payments on time. A year's worth of on-time payments will raise your score and show a mortgage lender that you are responsible.

Lenders will look at

  • Your employment history and your identity: Make sure all of this is completely correct.
  • Inquiries made on your credit: This can hurt you, and it might not be something you knew about. If you apply for credit cards, for whatever reason, there could end up being five or six inquiries on your credit report. This makes lenders suspicious of your credit-worthiness. If these inquiries stretch out over time, they are counted individually and this makes things look worse. Most of us shop around for the best interest rate when it comes to buying a car or home, however, so the credit reporting agencies look at inquiries made within fourteen days of each other as only one inquiry.
  • How you have paid your debts in the past: Your credit report details how you have handled credit and debt in the past. It will show your credit limits, whether you were ever late with a payment, how long it took you to pay things off, how high you charged credit, etc.
  • Public record information: Here is where the credit report lists things like bankruptcies, foreclosures and liens.

Explain things to a lender in writing

Provide the lender, in writing, the reason for your poor credit score. Explain your situation if a certain credit card bill was never forwarded to your new address, or if a postal employee was stealing the neighborhood mail. Explain late payments due to a job layoff. Even when a lender's computer kicks you out of the system, a human being will take a second look at your loan application to see if there is any way to make things work. Some lenders are more sympathetic and flexible than others. You may have to shop around a bit to find them.

Find a good mortgage broker

Mortgage brokers provide a valuable service. They know which lenders will work fairly with people who have had credit challenges. A mortgage broker "shops" for the best lender for your unique situation and can end up saving you a substantial amount of money.

The seller-financed loan

Sometimes buying a home from the homeowner is the best bet. This person might not check your credit, and could be more flexible about how the home is purchased. Sometimes a homeowner is as eager to sell as you are to buy, and creative methods can be set up to suit both of you. The seller can carry the loan, for example. A "wraparound" mortgage might be an option. That happens when the seller still owes money on the home and you take over the mortgage payment, plus an additional amount that covers the balance. Wraparounds are not legal in all states.

Mortgage pre-approval

You can get pre-approved for a home loan before you ever look at a single house. First, get your credit report as clean as it can be, pay off as many outstanding debts as you can and raise your credit score as much as possible. Then go to a mortgage lender or broker and get yourself a pre-approval certificate.

In this case, a mere "pre-qualifying" letter is not the same thing. You need to have the lender actually pull your credit report and pre-approve you as would be done if you had already picked out a home.

The lease-to-purchase option

If you already rent the home you would like to buy, and the homeowner agrees to sell it to you, a portion of your rent will go toward your down payment. At a certain agreed-upon date, you will have accumulated some equity. Never forget that if you embark upon this option and for some reason it does not work out, the money you have spent will not be returned.

Borrow the sum you need from your relatives, friends, 401K or IRA

Though this should probably be a last resort, it is an option for many people. Additionally, the Roth IRA has a special provision just for this purpose. With the Roth, you are allowed to withdraw up to $10,000 in order to buy a first home.

If you do borrow money, you need to disclose this information to the lender. If the money provided was a gift and does not need to be paid back, provide proof of this in writing.

Warnings

When you apply for a home loan and everything has worked out, be careful not to mess things up. Do not go out and finance a car, for instance, while you are waiting for your home purchase to close. It could throw off your credit ratio and ruin the entire loan process. To be safe, try not to charge anything or apply for any other loans during this sensitive period. You could end up losing your earnest money on top of losing the home you want to buy.

How to get your credit reports

To get your FICO credit score, visit www.myfico.com. This website is packed with other helpful financial tips, and ideas about how to raise your score.

The three major credit reporting bureaus have set up a central website, address and phone number where we can get our free annual credit reports. This organization can be reached through their web site at www.annualcreditreport.com or at their toll free number: 877-322-8228. You can print a copy of their request form from www.ftc.gov/credit and mail it to:

Annual Credit Report Request Service
P.O. Box 105281
Atlanta, GA 30348-5281

Never give up the dream of owning a home

Less than perfect credit does not mean you will never own a home. Put in the work to clean up your credit reports and hang in there. Owning a home is a dream worth achieving.

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