How To Get A Loan With Less Than Perfect Credit

There is still an unhealthy number of home buyers who feel that they need perfect credit in order to obtain approval for a home loan.

The truth is that almost everyone will have had a blot in their credit history one way or another over the years.

Sometimes benign carelessness can result in late payments, sometimes a person got the amount due on his credit card wrong, sometimes a refusal to pay the annual fees can also cause a delinquency record in the credit report.

One would have to really be a saint to be deemed to have perfect credit by the credit bureau and the lender. And these people can be as elusive as a unicorn.

This is why lenders expect borrowers to have less than perfect credit scores. If they don’t, they must be living in dream land.

However, an average or below average credit score can mean that a borrower will obtain a worse off deal than one with a good credit score.

So really, you need to remove the idea that you need perfect credit to get a mortgage.

These days, people can even get a home loan with bad credit.

The question is not whether one can or cannot obtain a loan. It is about how good a deal the borrower can qualify for.

Here are some reasons why perfect credit is next to impossible.

Fully paying off delinquencies

Most people implicitly understand if they fail to pay their debt obligations in a timely manner, their credit will be adversely affected.

But what most don’t realize that even when they fully settle a delinquency by repaying the total amount due, the delinquency record still stands.

Just that it will be part of his or her credit history.

Paying off a debt does not immediately improve one’s credit score.

Remember that the whole purpose of credit scoring is to determine a borrower’s credit profile. And this is done by using data based on current and recent repayment records.

This means that settling a debt today will not necessarily mean a better credit score the next month.

Consolidation of debt

Another thing that borrowers often do is consolidate multiple credit card balances into one big balance in a new card.

The idea is that this would show just one account with outstanding balances instead of five.

This is a bad misconception as it might max out that single card, putting the borrower into more hot water.

For example, let say an individual has 5 credit cards with a credit limit of $5,000 each, each with $1,800 outstanding. This puts the utilization ratio at below 40% each. If he consolidates everything into a new card with a limit of $10,000 via a balance transfer, the total debt of $9,000 would result in a balance ratio of 90%!

In this case, even though there is now only 1 card with unpaid dues instead of 5, the 90% usage can send shivers down the spine of lender.

This will inevitably affect credit score.

What it communicates to lenders is that this borrower could be pushing his financial limits and might be underwater pretty soon.

If this is exactly what you have done, don’t try to reverse the process by signing up for new cards so as to spread out the utilization.

This is because seeing records indicating that you have recently opened a number of new accounts can trigger their a lender’s suspicion of a borrower in financial trouble.

Under such circumstances, it is best that you let it be.

Credit inquiries

One more thing that amusingly affects credit scores is the number of credit inquiries.

It sounds ridiculous that the amount of credit inquiries can affect credit score. These are seemingly innocent actions that don’t create any delinquencies.

But it is a fact that we need to acknowledge and accept.

The logic is that multiple inquiries are related to a higher risk of default.

Whenever a person applies for a credit facility, whether it’s a personal loan or credit line, it creates a record of inquiry on his or her credit report.

The more inquiries there are, and the more clustered they are over a short time period, the more negatively they can affect credit score.

People who sometimes get desperate and apply for various types of loans with various lenders, be it home equity loans or payday loans, will inevitably have their credit hammered… at least for the short term foreseeable future.

The one silver lining with the rule is that multiple inquiries for the same type of loan, like a mortgage, will only be counted as one inquiry if they are all requested over a specified time window.

Combined credit

Married couples often buy a house together and apply for the housing loan together.

When a mortgage is applied for by more than one applicant, each applicant’s credit score has to be taken into account for to tabulate an overall credit score.

How this is done depends on the lender’s underwriting protocol and policies. Whether they are fair is up to debate.

The most basic way to calculate this is the add up the two individual’s credit score, and then divide it by two to obtain a final figure.

This means that even if one borrower has perfect credit, the final score used for underwriting procedures will still be less than perfect as long as the other borrower have a less than perfect credit score.

When the share of ownership to the property is not evenly split like 50/50, this can affect how the final score is determined too.

For example, if 2 applicants have a FICO score of 600 and 700, and a property share of 60% and 40 % respectively, the final credit score might be determined by:

(600 x 60%) + (700 x 40%) = 360 + 280 = 640

It is not recommended to guess how lenders work these things out internally as you would never know for sure unless you work in the credit department.

However, it is good to know in personal finance.

Focus on the right stuff

Unless you know that you have a recent credit history so ugly that it should never see the light of day, I suggest that you don’t worry about your credit score and focus on sourcing comparing the best loans you are eligible for from a mortgage broker.

A lot of people, especially first time home buyers, think too lowly about their own credit and they have little idea how seriously or how little certain things can affect it.

A lot of actually people feel that they have bad credit but upon applying for a loan, they realize that they are above average

Making them waste all that time on their initial fears.

There are various places these days that offer free credit reports for consumers. So get yours and take a look for yourself if you want.

And even if you have bad credit and no time to build it up, there is always another market ready to meet your needs for financing.

Sub-prime or non-prime

Ever since 2008, sub-prime lenders have maintained a low profile as the public felt that they were significantly responsible of the mother of all financial catastrophes.

Now they are back and rebranded as non-prime.

Whatever they are called, and no matter how they are perceived by social justice warriors, they actually play a crucial role in the real estate industry.

They help a lot of people realize their dreams of owning their own houses even when they sit on the lowest end of the “less than perfect credit” category.

Lenders in this space almost exclusively serve borrowers who do not meet the conventional credit criteria required by the big lenders.

Even those with previous bankruptcies would be able to qualify for a loan here.

You will surely find the loan here.

The problem is that they can come with high interest rates and points.

So do compare meticulously with a calculator and make a calculated decision in choosing the right home loan for you.

I hope you realize that requiring perfect credit is a myth that should have long been banished from the system.

Finally, don’t forget to engage in negotiation strategies to potentially get a better deal.

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