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If your credit score is in the tank, you might think you’re out of luck when it comes to getting a mortgage. But that’s not necessarily true. Despite the tight-credit era ushered in by the housing crash, people with FICO scores in the 600s and below do get mortgages.
If your credit score is below 680, there are three important things to know before you apply:
1. You’ll need to be prepared to pay more for a mortgage than someone with a stronger credit score. How much more? We’ll get to that in a minute.
2. When you have “impaired” credit, your ability to get a mortgage hinges to a large degree on the answer to this question: Why is your credit score low?
3. It’s hard to get these loans. You’ll have the best luck with a mortgage broker, loan officer or lending company with expertise in helping low-score borrowers.
You’ll pay more
The best interest rates go to mortgage borrowers with scores of 720 and above. However, many people are surprised to learn that home loans do still exist for people with flawed credit.
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The catch? It will cost you more. Often, a lot more. You can experiment with the calculator at MyFico to see the differences. Here’s an example of the added interest costs on a $200,000 mortgage:
Before committing to an extra-high-priced mortgage, ask yourself: Is purchasing hundreds of thousands of dollars’ worth of real estate the best for your finances right now? You may do better by paying debts and re-establishing solid a financial footing. For trustworthy help, call the National Foundation for Credit Counseling at 800-388-2227 and check out this guidance from the Consumer Financial Protection Bureau.
But not all low-score borrowers are in hock. Doctors, for example, are “notorious” for having bad credit, even with solid incomes and lots of cash in the bank, says Eric Mitchell, vice president at Priority Financial Network, a mortgage bank based in Calabasas, Calif. “It’s common to see a doctor making $500,000 a year living below their means with a 580 credit score because they’re so busy doing what they do [that] they forget to pay their bills on time,” he says.
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The ‘demilitarized zone’
It’s not just more costly to get a loan when your score is low. It’s also more difficult. The average credit score for a Federal Housing Administration purchase is 693. This year, just 42% of FHA home loans (.PDF) have gone to borrowers with scores between 620 and 680.
The lower your score, the more difficulty you will have. Of all mortgages made between August and October 2012, only 4% went to borrowers with scores under 620, according to FICO, the credit scoring company. In 2006, when lending was looser, about 18% of borrowers had scores under 620.
Mitchell calls scores between 580 and 620 the “demilitarized zone.” “There are options, but man, it’s tough” to find them, he says.
His company, Priority Financial Network, offers low-credit loans because it strives to be a one-stop shop to which real-estate agents can send clients. Some of those clients have dinged credit, so although low-credit loans don’t mean much profit, Priority includes them among its offerings. Although 80% of lenders lend at a minimum 620 FICO score, Mitchell says, “We will go below 580, on a case-by-case basis.”
Subprime or ‘nonprime’ is creeping back
Despite the obstacles, even borrowers with scores below 580 sometimes can get mortgages. Subprime loans – for borrowers with low scores – got a bad name because of dangerous features often attached to them at the end of the housing boom: stated-income loans, with no need to prove you qualify; option ARMs that led borrowers deeper into debt; and low, low teaser rates that exploded eventually into higher rates with hopelessly exorbitant payments. Those products disappeared after the mortgage crash, and some will be illegal starting next year.
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Recently, though, “non-conforming” mortgages, with rates higher than those offered by banks, are appearing again. These are “old style” mortgages where borrowers make big down payments, typically 25% to 60%, wrote Inside Mortgage Finance, an industry publication.
Citadel Servicing Corp. in Irvine, Calif., is one of very few lenders lending mortgage money to borrowers with FICO scores as low as 500. It began in April making fixed-rate and adjustable mortgages of $50,000 to $750,000 using money raised from private investors. These mortgages don’t qualify for government backing, which makes them considerably more expensive.
Citadel CEO Dan Perl calls himself a “nonprime” lender. The term “subprime” denigrates borrowers, he says. “We’re talking human beings who have had some bumps in the road.”