Following the last economic meltdown, banks clamped down considerably on mortgage loans. And as the number of people clamoring to buy homes at rock bottom prices grew, financial institutions were able to pick and choose to whom to extend credit.
The best situation to be in when applying for a mortgage is obviously to have good credit. A positive credit score opens doors to loan availability as well as good interest rates. With a record of bad credit, however, there are few options available to you.
The first recommendation would be to sit it out, try to improve your credit rating by paying off debts in a consistent manner and put off visiting a lender until you can safely apply for a standard mortgage. It often takes up to two years of tireless effort to increase your credit score to the point that will enable you to qualify for a low interest rate home loan. During this time, you can repair your credit record using the following methods:
Check your Credit Reports
Ask to view your credit report from all major credit agencies. Mortgage firms and financial lending institutions delve deeply into your credit standing and your overall score is the first item they check. It is important that you understand how your credit score is configured. The Fair Credit Reporting Act (FCRA) allows you to obtain a free copy of your credit report at your request once every 12 months from each of the national credit reporting companies, Experian, Equifax and TransUnion. Credit agencies evaluate your history with an alphabetical rating, where A is fine, B is acceptable, C is fairly bad credit and D is given for very bad credit.
Substantiate that everything appearing on these reports is accurate and let the credit agency know if there are any errors published on the report. Your interest in correcting these errors often helps your credit score and simply by posing the questions, you can raise your score up sufficiently to enable you to qualify for a traditional home loan.
Calculate your “loan-to-value” Ratio
Since banks will do this upon receipt of your application, you can, on your own, determine your loan eligibility by calculating the ratio between the amount being borrowed and the value of the property you are interested in purchasing. This relation is referred to as “loan-to-value” or LTV. A borrower qualifying for an 80 percent LTV loan, for example, can purchase a $100,000 home with a loan of $80,000.
You should also calculate your debt-to-income ratio. You can do this by taking your debt payments including the loan being applied for and divide the number by the net cash available to you each month for living expenses after debt payments. A score of 40 percent or less is appropriate and will increase your odds at having the loan approved.
Repair your Credit
You can actually repair your credit by using different credit. Make sure your credit card remains up-to-date. Use it at least once a month, but pay the balance off in full each month. If possible, try to pay back a bit more than the required amount. This will go far in improving your score. If you don’t have a credit card, you can get a “secured” credit card from the bank and with a small deposit you can ‘charge’ up to the amount you deposited.
Apply for a Subprime loan
Sometimes it is problematic to wait up to 24 months to fix your credit, and if you must buy a piece of property post haste, your only option is to seek out a bad credit home loan, referred to as a subprime loan. Subprime mortgages charge exorbitant interest rates and these have become increasingly difficult to obtain from lending institutions. The housing crisis of 2008-2010 imposed severe restrictions on banks and lenders with respect to the interest rates and origination fees they are allowed to charge and most of these restrictions are still in place, causing increased hardships for interested home buyers. Even with subprime loans, it is worth searching for the best available rates as not all banks offer the same interest rates and small differences add up. Keep in mind that income verification will be required and be sure you will be able to make the monthly payments.
Cina Coren is a contributing editor at Daily Forex.com and a freelance blogger for several publications.