Should I get a home loan if I have bad credit?

Buying a home is a dream for many people. If you have bad credit, it may seem more like a nightmare. There are options to get a home loan if you have bad credit, but the reality is that it may not be worth it in some cases.

Before committing to a home loan, decide if it is the right time for you and your credit, and make sure no lender is taking advantage of you.

While owning a house can be a big step towards gaining wealth, there is a wrong way to do it – especially if your credit is less than incredible. Between high interest rates and other unfavorable terms, getting into a home loan at the wrong time can devastate your credit and financial future.

If you agree to terms when you aren’t ready, you may struggle to pay the mortgage or stay afloat. You may even default on the loan, which has a lasting impact on your credit for years to come. While it may seem difficult to wait it out, waiting until your credit is in better shape may be the best route in many cases.

Your credit score may vary depending on which credit bureau you are checking. However, most lenders use FICO scores, which will generally range from 300 to 850.

As part of the application process for a mortgage, lenders will pull up your credit reports. This is unavoidable, and anyone who does not check your credit scores should likely not be trusted to handle your loan.

To get the best possible loans, you will need a good credit history, and a FICO score around 750 or higher. Anything above 700 is passable, but you may get a slightly worse deal.

If your credit score starts to get down into the 650 range, many lenders will stop working with you. If they do still offer you a mortgage, it will likely have a much higher interest rate. In the lower 600s, this becomes even more unlikely.

Getting a home loan when your credit score is around 600 is possible, though most experts will say it is highly inadvisable. At this lower end of the spectrum, interest rates on any loans you do qualify for will be astronomical. These loans have a very high risk of default, as they can be very difficult to maintain or pay back.

If your credit score is in the low to mid-600s range, it may be best to wait to take out a home loan until your credit improves.

If you are into subprime territory, you should know that the system here is not designed to help you. On paper, it seems as if subprime lending is designed to hurt your credit score even more.

Put simply, a subprime loan is a loan with a much higher interest rate than your standard loan. Subprime loans also have other difficult features, which may make defaulting on the loan seem inevitable. For instance, some subprime loans have negative amortization.

This happens because the rate is so high that your monthly payment cannot even cover the interest. This means that if you pay the minimum monthly payment on your loan, you will actually notice your balance growing each month, as the unpaid interest stacks up with the rest of the unpaid balance.

Other companies may offer specialized introductory rates which seem too good to be true. When the introductory period ends, however, the rate skyrockets.

Practices such as these can make it a near certainty that you will default on your loan. It is best to avoid subprime lending for mortgages.

In most cases, you will want to avoid subprime lending for something as large as a mortgage. With that said, there are still some options available to you here.

For instance, the Federal Housing Administration (FHA) works directly with lenders to help people with poorer credit scores become homeowners. Essentially, they insure the loans that lenders make to riskier borrowers, to be sure they get their money back in the case of a default. That way, these lenders can offer better rates for these borrowers with bad credit.

The FHA is the best option for most people in this situation. They allow borrowers with credit scores as low as 580 to qualify for mortgage programs, with down payments as low as 3.5 percent.

And there are even options for people who have credit scores lower than this. For people with scores in the 500 to 579 range, FHA-insured loans require you to make a 10 percent down payment on your mortgage – so for a $300,000 mortgage, you would need to pay $30,000 up front.

Any lower than this, with a credit score of 500 or below, and you will not qualify for FHA-insured home loans.

There may be additional options in some states, and even more options for some retired veterans of the armed forces or their spouses, but the FHA is the best general option for people with bad credit.

The short answer here is that in many cases, it may be much easier to raise your credit to qualify for better loans. The added stress of subprime lending and the struggle to stay afloat is simply not worth it.

With that said, every case is different. The first step is to shop around. Check out potential loans from credit unions, mortgage companies, and banks. See what you qualify for, and know your credit score.

Even if you do qualify for a loan, it does not automatically mean you should accept it. Keep a few things in mind here:

Why your credit scores are low – If you have trouble with your credit scores due to difficulty paying bills on time or still have a lot of debt, you may not want to take on a mortgage. It could be much better for you to simply wait and pay down your debt.

If your payments will be high – If your proposed mortgage payments will be over 30 percent of your monthly income, you should reconsider. It may be difficult to stay afloat, and you may be at risk of defaulting on the loan, losing your home, and ruining your credit.

What the interest rate is – While you can expect a high interest rate with poor credit, higher interest rates mean you will end up paying a lot more on a loan with a lower interest rate. Your payments will also be higher.

How ready you are – Your financial stability is important, and is not a factor a lender is looking at. Are you ready to cover a down payment, closing costs, and high monthly payments for years to come? You may want to have savings for accidents and unexpected expenses. These are all things to consider before saying yes to a loan.

If you have poor credit, you may still qualify for a guaranteed loan through the FHA. Use the U.S. Department of Housing and Development’s Lender Search List to find lenders offering FHA loans you may qualify for.

If you are set on getting approved for a loan ASAP, there are some steps you can take to improve your odds:

You may also want to explore alternatives options here, such as buying a smaller home, consolidating your debts to pay them down quicker, or borrowing more for a down payment.

While it is possible to qualify for a mortgage with bad credit, it is not always the best solution.

If you want to get a loan but have poor credit, it is important to ask yourself if it is worth the additional stress to take on this mortgage. In many cases, waiting a couple years until you are more financially stable will not only increase your chances of getting a better loan, but will reduce your longer-term stress and secure your financial stability.