Buy Your First Home With Bad Credit

Purchasing a home is usually considered a good investment. However, a bad credit history can be an even bigger obstacle for potential buyers than it was in the past, as the recent economic crisis has caused lenders to tighten their standards for loaning money and providing mortgages. However, it is not impossible. You can buy your first home with bad credit by accessing federal and local resources and saving for a larger down payment - see below for detailed instructions.

Steps

Buying a Home

1. Research federal mortgage programs. The Federal Housing Administration (FHA) and the Veteran's Administration (VA) provide loans that have more forgiving credit standards to qualify for loans. Work with a lender that specializes in FHA and VA loans if you are eligible. State and local programs may also be available to help people with bad credit get approved for mortgages. Check with your local housing authority for help. Some helpful resources include:
   • https://portal.hud.gov/hudportal/HUD?src=/program_offices/housing/fhahistory
   • http://www.benefits.va.gov/homeloans/index.asp
2. Search for homes. The first step in buying a home is to find an assortment of homes that you're interested in, based on their location, condition, size, etc. Contact realtors in your area and tell them your situation. Use an online site or agency to do real estate searches in your area. One source of good deals is The U.S. Department of Housing and Urban Development (HUD), which sells homes that have been foreclosed on at market value. Visit hudhomestore.com for more information. Note that HUD homes still require you to supply the necessary cash or to get approved for a loan.
   • If you have filed bankruptcy, learn how to buy a home after filing bankruptcy.
   • If you have no money to put down, visit how to buy a home with no money down.
   • If you want to lease, visit how to buy a house using a lease.
   • Temper your expectations. If you have bad credit you might not be able to get a loan for your "first-choice" home, unfortunately. If you do get a loan, you might be burdened with a high interest rate that will have you paying thousands more over the lifetime of the home. Be realistic about what you can afford - buying a home is one of the most important financial transactions you'll even make. Don't start your home-owning history by getting into a financial arrangement you can't afford. If this means you have to opt for a smaller home or a home in a less desirable location, so be it - it's better than defaulting in the future.
3. Take advantage of low down payments. The Federal Housing Administration (FHA) offers loans with very low down payments to first time home buyers. Whereas a typical down payment may be 20 percent of the loan, an FHA loan can be as low as 3.5 percent of the loan. If you're short on cash, FHA loans are a very smart choice especially if you have less than perfect credit.
   • FHA will insure loans with a minimum credit score of 580.
4. Save money for a sizable down payment. Most normal loans require a down payment of 10 to 20 percent of the settled price. Having a risky credit profile means that down payments on loans you are eligible for will tend to be less favorable than if you had good credit. Come up with as much cash as possible for a down payment - people who have saved diligently are more attractive to lenders. Plan to have at least 20 percent of the loan's price available for a down payment (unless you have a veterans affairs mortgage). Also plan for "closing costs" - expenses incurred when you finish paying off your home (attorney fees, survey fees, title service fees, etc.).
   • When you're saving for a down payment, keep the money you've saved separate from your normal expense account. Only dip into this money in absolute emergencies.
   • If you're having trouble saving for a down payment, consider taking up a part-time job, cutting out unnecessary expenses, or even moving to a less-expensive apartment. You may also want to contact your creditors to scale back on your payments for any outstanding debts, especially student loans.
5. Expect to pay a larger interest rate. There's no way around it - getting a loan for a mortgage will usually be more expensive when you have bad credit. A bad credit history shows that you're a risky person to lend to. Because the bank or lender thinks it might not get all of its money back when it lends to you, it will require you to pay more each month than a less-risky person would. This might not seem too bad at first - the monthly payment on a high-interest loan may be only a little higher than on a normal loan. However, because mortgages can take decades to pay off completely, over the life of the loan, this can add up to thousands of extra dollars.
   • You absolutely must make sure that you can afford to pay back your loan. Take into account the fact that interest rates can change over time. If the lender is forced to foreclose on your home, your credit will plunge even worse than it was before you started. Before taking a high-risk loan, consider simply repairing your credit profile through a few years of financial responsibility.
   • As a first time home-buyer, you will have no record of mortgage payments in the past, so your baseline "default" risk will be higher.
6. Consider seller financing. Seller financing is a real estate agreement where financing provided by the seller is included in the purchase price using house as collateral.
   • Interest might be higher, but down payment may less.

Salvaging Bad Credit

1. Know where you stand. Don't let bad credit sneak up on you. Keep an eye on your credit score as you attempt to work around it . You can check your credit score on free credit score reporting websites such as Credit Karma. You want to have a realistic view of your current credit profile so that you can set your goals accordingly and judge the successes of your efforts to improve your credit. A good first step is to get a credit report from the three major credit agencies: Equifax, Experian, and TransUnion. The credit scores that these agencies give are used when banks decide whether to approve you for loans. Higher credit scores mean you're more likely to be approved for a loan and that your loan may cost less.
   • Federal law in the United States dictates that these three credit agencies must provide you with a free credit report every 12 months if you ask for it. Visit AnnualCreditReport.com to get started requesting your free credit reports.
   • Credit scores range from 300-850, with 850 being hypothetically "perfect" credit. Generally a credit score above 700-720 is considered "good," while anything below about 640 is considered "poor."
2. Work to fix your credit if you have Fix Your Bad Credit Rating, work to fix it. Your best chance of buying a home doesn't come from navigating the obstacles created by your bad credit. Rather, it comes from turning your bad credit into good credit so that you don't have to deal with those obstacles in the first place. It's a simple fact that buying a house on good credit is always the smartest move. With good credit, you're more likely to get approved for loans, and, as a general rule, the loans you get will usually have better interest rates and/or down payments associated with them. Take the time to improve your credit - in the long run, it's always your best bet.
   • Keep in mind that paying off your credit card debts is one of the faster ways to improve your credit score rapidly.
3. Avoid common credit pitfalls. If you're reading this article, you probably already have less-than-ideal credit. However, this doesn't mean you should let your credit profile go into free-fall! Further neglect will only damage your credit more and make it less likely that you'll be able to get the house you've set your heart on. Avoid the following credit-damaging behaviors at all costs:
   • Late payments on student loans
   • Delinquent payments on other items (car, possessions, credit cards, etc.)
   • Short sales (selling a property for less than the amount still owed) or foreclosures. This is presumably your first home, but your partner or spouse may have been involved with other mortgages previously.
4. Have explanations for credit troubles. Sometimes, the negative effects of a bad credit history can be mitigated if there is a good reason for your difficulties. Be prepared to explain some the negative issues listed on your report, such as late payments, bankruptcies, or other issues. If your bad credit is due to a medical emergency, a job loss, or a divorce, be sure to know relevant facts and details surrounding this event so that lenders can consider the circumstances of your negative credit rating.
5. Dispute inaccurate information on your credit report. Even massive credit agencies make mistakes. Read your credit reports carefully - if you receive "bad marks" on the report based on information that is false or incomplete you can (and should) dispute it. Credit agencies are required by law to investigate your complaint within 30 days (unless they consider it frivolous.) Send a formal letter to the reporting company notifying them of the inaccuracies. It's practically free, and, if successful, can seriously boost your credit score.
   • Include copies (not originals) of documents that support your claims. You may also want to include a copy of your credit report with inaccurate items clearly circled.
   • Include, in your letter, a request for a "return receipt" - this way, you'll know if the agency has received your letter.
6. Don't fall for scams. When you've got bad credit and you're desperate to buy a house, it can be tempting to do something - anything - to eliminate your bad credit. A wide variety of quasi-legal predatory credit services and scams exist to take advantage of precisely this desperation. Don't fall for them. You can lose the cash that you do have and leave yourself in even worse straits than you were in before. If a deal seems too good to be true, it probably is. Services that offer to "erase bad credit" or give you a "clean slate" simply don't work. According to the Federal Trade Commission (FTC), no companies or agencies exist that actually do these things. The FTC recommends that you should stay far away from services that:
   • Require you to pay money before any work is done for you
   • Tell you not to contact the credit agencies directly
   • Tell you to dispute (accurate) information on your credit report
   • Tell you to lie on your loan application
   • Are vague about your legal rights with regards to their "service"
7. Practice fiscal responsibility. If you've already disputed as much of your credit report as you can, there's not much more you can do other than to simply practice Budgeting for as much time as is necessary to improve your credit profile. By enacting good financial fundamentals, you can get your debt under control, and, within a few years, be on the road to good credit (and, thus, the house you desire). There's no "quick fix" to bad credit - making lasting improvements to your credit score requires you to make tough decisions to get your financial affairs in order. To start, you should:
   • Get your expenditures under control. You can't spend more money than you earn - this practice isn't sustainable. Start a household budget by keeping track of everything you spend money on every month, including bills, groceries, etc. You may be surprised by how much money you spend frivolously. Eliminate luxury purchases and expensive monthly services (cell phone and internet plans, for instance) in favor of cheaper alternatives.
   • Contact your creditors. Let them know your situation - they don't want you to default, so they will probably work with you to re-structure your debt, making it easier for you to pay.
8. Give plenty of time for your credit to improve. Above all, repairing bad credit takes time. To go from bad credit to good credit usually requires you to be fiscally responsible for years. Work through your difficulties - get your expenses and debts under control and simply work on living responsibly for a while. You'll be amazed how liberating it is to get your fiscal affairs in order. Knowing that you're slowly but surely reducing your debt, rather than adding to it, feels great. Just keep at it!
   • Credit reporting agencies can report most negative information against you for seven years and bankruptcies for ten years.
   • Unfortunately, some negative information has no time limit for when it can appear on a credit report. This information is:
     • Any criminal convictions.
     • Information reported in response to a job you applied for that pays over $75,000 a year
     • Information reported because you applied for over $150,000 in credit or life insurance.
9. Consider meeting with an expert. Ultimately, consulting with an expert such as a real estate agent/broker or an attorney to fix your credit may save you a lot of money and time in the long run. Find a professional who can help you and meet with them for a consultation.

Tips

• If you are unable to get approved for a loan, or if your bad credit will make a mortgage too expensive, consider waiting for a year or 2. This will give you extra time to save for a down payment, get your finances in order, and raise your credit score.
• Consider asking a family member or close friend to co-sign a mortgage with you. This will make you more likely to get approved. It will also hold the co-signer responsible if you default on your loan, or stop paying your mortgage. Think carefully before entering a financial agreement this large with the guarantee of another person as asking someone to be financially responsible risks losing friendship and family relations.
• Try to avoid an adjustable-rate mortgage (ARM) at all costs. While it is lower at the start, it goes up after a set number of years. It goes up very quickly (depending on your schedule) and you end up paying much more money in the long run.

Warnings

Avoid predatory lenders. Getting a loan and buying a home is an intimidating, complicated process - more so if you have bad credit! Unfortunately, some lenders try to take advantage of this. Don't be a victim of mortgage fraud. Never sign any contract that you don't understand. Never sign a contract because your lender is pressuring you to do so. Never let someone convince you to lie on a loan application. Legitimate lenders will be happy to help you understand the terms of your loan completely - after all, it's in their interest for you not to default. Predatory lenders will rush you into an exorbitant loan because they want to get as much money out of you as possible - whether you default or not. The HUD recommends to look for these common-sense warning signs:

• Lenders that tell you they are your "only chance" to get a loan. Good lenders will let you shop around, even if you have bad credit.
• Lenders that ask you to sign a contract that has blank spaces (or untrue information.) If this information is filled in later, you may still be bound to the contract.
• Lenders that tell you that the FHA protects you against property defects or loan fraud. In fact, it does not.
• Lenders that use "high-pressure" sales tactics to push home improvements, etc.
• Lenders that are eager to loan to you because of financial hardships brought on by medical, unemployment, or debt-related problems.
• Homes that cost much more than nearby homes, even though they're not bigger or nicer.

Related Articles

• Purchase a Foreclosed Home With a VA Home Loan

Sources and Citations

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