mortgage with bad credit

New mortgages have been getting approved with increasingly lower credit scores. This is most common with Federal Housing Authority (FHA) loans, according to a study done by FICO and other organizations. This is mostly because the banking industry is starting to ease back on some of the strict criteria that went into place after the Great Recession.

What is Credit?

We will first cover exactly what credit is before covering how mortgage borrowers have been getting approved with lower credit. Many people are actually confused what qualifies as credit.

First, credit is simply money that you have borrowed to pay for something. However, most people use credit interchangeably with credit scores.

A credit score is simply a number that determines the likelihood that you will repay your debt. A lower credit score, or credit, indicates that you are less likely to repay your loan.

The process to calculate your credit score is not public knowledge. The most common credit score is calculated by plugging different factors into a proprietary formula created by the Fair Isaac Corporation (FICO). One of the most important factors in maintaining a high credit score is to just pay your debt back on time. Late payment will severely impact your credit score. It’s important to remember though that this formula is used by different credit agencies and is by far the most common, but it is not the only credit score.

Different Credit Scores

FICOs scores usually range from 300 to 850. 300 is a very poor credit score and indicates almost no ability to repay a loan. On the other hand, a score over 750 is considered excellent and as far as credit is concerned, you should have no issue getting a loan.

Your credit score is an important factor when determining whether you get approved for a loan. A high score usually means it is much easier to get a loan while a low score makes it much harder. Not only that, but a low score will generally mean a higher down payment and a higher interest rate.

The next section with examine the average credit score required to qualify for a home mortgage and the increasingly large number of people with low credit scores qualifying for home loans.

Lower Credit is More Common

As mentioned earlier, the Great Recession led to a tightening of the money supply, which meant getting loans was much more difficult. Fortunately, those times are behind the banking industry. It has become increasingly common for those with low credit to get approved for a mortgage. In fact, it has become so common that many of the major agencies that report on credit have noticed this trend. For instance, FICO recently conducted a study that 29 percent of new borrowers have a credit score in the 400s. This is an 40% increase from 2009, which is a fairly large amount.

Furthermore, the average credit score of an FHA borrower has decreased since the Great Recession. In 2011, the average credit score of a borrower was about 700. All in all, this is information is useful, but the credit score is not the whole picture that banks use when they determine to approve or deny your loan application. The next section will cover another important factor related to credit when trying to get loan approval. Keep in mind all lending institutions use different lending criteria factors so it’s important to understand how each bank evaluates various credit score levels.

The Average Debt-to-Income Ratio is Increasing  

Another important factor on your loan application is your debt-to-income ratio (DTI). In fact, this might be even more important than your credit score. Basically, the DTI measures your total monthly debt against your monthly income. Total monthly debt includes any personal debt, which is generally personal loans, home loans, and credit card loans. A lower DTI with a high credit score means that you are more likely to get approved.

debt-to-income ratio

According to the Consumer Financial Protection Bureau, a debt-to-income ratio of 43% or lower is ideal to qualify for a mortgage. Generally, debt-to-income ratio has been increasing among Americans and banks have been more likely to approve borrowers with a higher DTI.

Do You Need a High Credit Score to Get a Home Loan?

A higher credit score can make the process of getting approved for home loan significantly easier. This is not everything that goes into a home loan application though. The bank will also want to see income and other debt that you currently. They will use that to determine whether to approve or deny your loan application.

Final Thoughts

Overall, getting a home loan with lower credit is more possible than it has been in recent years. Getting approved for an FHA loan can be even easier because it allows you to put a much lower down payment on your home with a lower credit score. Higher DTI ratios are becoming more acceptable as well, although remember that even if you do get approved with a lower credit score, you’re likely to have a higher interest rate. Even if you don’t have excellent credit score, this indicates a bright future for first time home buyers. As a first-time homeowner it is important to make sure you feel satisfied with the monthly mortgage payment and other home expenses so you can confidently budget for these monthly expenses. Just like all things related to credit just because you can be approved doesn’t mean you should, especially if you don’t feel comfortable with the financial commitment. If you are looking to buy a home and are in need of credit repair help before getting approved, contact our credit experts for a free credit evaluation to see if we can help you.


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Posted in Mortgages