Research shows that buyers with lower credit scores pay a higher monthly rate and higher overall interest.
Everyone knows buying a home without a great credit score is more expensive. Everyone knows the worse your credit is, the more expensive loans are. But by how much?
A new study from Zillow found that homebuyers with “fair” credit (580 – 669 FICO) on average pay an additional $300 on their monthly mortgage compared to buyers with “excellent” credit (760 and 850).
Because of interest, that means people with lower credit scores pay about $103,626 more by the end of their mortgage.
There are private islands that cost less than that.
“If you find you have low credit, take realistic steps to improve your credit score by doing things like disputing possible report errors and paying down as much debt as possible,” says Zillow’s VP of Home Loans, Libby Cooper. “This could increase the amount of home loan you qualify for.”
But if you don’t have time to start your credit journey, there are better options out there. Fixed-rate mortgages just might not be your best choice.
Find out: How to Buy a House with Bad Credit
“Good” loans for your “poor” credit score
If you have a fair credit score or lower, a traditional mortgage probably isn’t for you. Someone with a fair credit score will pay about $1,826 on a traditional mortgage while a buyer with an excellent score will only pay $1,538.
Although the 30-year mortgage is the most common loan, it isn’t the only one. An adjustable rate mortgage (ARM) is better for someone with a score in the 600s. ARMs will often give you three to five years with a fixed interest rate. After that initial period, your interest rate will fluctuate depending on the economy.
Your lender will look at a variety of federal indexes. It’s really great for the borrower when rates are low, but they can always skyrocket up. If all goes well, the borrower can save a lot of money in interest.
An FHA loan has looser financial requirements. This is a better choice for someone with a credit score in the 500 – 600 range. They tend to have a 560 minimum. An FHA is insured by the Federal Housing Administration so if a borrower defaults on their loan, the administration covers the lender’s costs.
To get one, you’ll have to go through an FHA-approved lender, make an upfront payment for 10 percent of the cost, and pay for mortgage insurance.
How to find your best option
Navigating all of the options out there can be overwhelming, so the first thing you should do is contact a housing counseling agency that has been approved by the Department of Housing and Urban Development (HUD). A counselor can sit down with you and show you the best choices for you in your area.
People with bad credit who are looking for better loan options often have to go to a homebuyer workshop in order to qualify. A housing counselor can help you with that too – and the workshops are usually free.
After the workshop is completed and you have a certificate, you can start applying for FHA loans.
If you still aren’t able to qualify for a loan, that means it’s time to repair your credit. And credit report errors do happen. Start by getting your free credit report from annualcreditreport.com and check that everything is accurate. Use the report to get a full picture of what is bringing your score down.
“When you are thinking about buying a home, the best first step you can take is to fully understand your financial picture, what you can afford, and your outstanding debts or obligations,” Cooper says.
Find out: How to Shop for a Mortgage
Published by Debt.com, LLC