If your credit score is lackluster, you may be concerned that this is preventing you from refinancing your mortgage. Fortunately, refinancing can be difficult, but not impossible. Here’s what you need to know about how to refinance your mortgage with bad credit.
What credit score do you need to refinance a mortgage loan?
Regarding the minimum credit score to refinance, “all institutions have different loan criteria depending on the different loan programs,” said Catherine Okoroh, vice president of guaranteed rate mortgages.
In the wake of the coronavirus pandemic, Okoroh says, many lenders are raising eligibility standards to reduce their risk.
Mortgage lenders typically seek a credit score of at least 620 to refinance conventional loans, but the standards are more flexible with government sponsored mortgages. For example, lenders can approve a Federal Housing Administration rate-and-term refinance with a credit score of 580 or even ignore the credit check for an FHA streamlined loan.
Loans guaranteed by the Department of Veterans Affairs do not have a minimum credit score requirement, but the VA requires the lender to review your entire loan profile. Applicants for loans from the United States Department of Agriculture with a credit score of less than 640 will undergo manual underwriting, a process to assess your ability to repay a loan.
How to refinance your mortgage with bad credit
If you’re trying to refinance a mortgage with bad credit, check your credit score first to make sure it falls into that category. A FICO score between 300 and 579 is considered bad, and scores between 580 and 669 are fair. Once you know your score, you can prepare your finances and apply for the right mortgage program.
Here are some tips to keep in mind when dealing with bad credit:
Check your debt ratio, or DTI ratio, which is the percentage of your monthly income that goes towards debt.
âIf a borrower has a lower credit score, their DTI must also be lower,â Okoroh said. “Usually on a conventional loan you want the DTI to be less than 45%, and for an FHA loan the DTI should be less than 50%.”
However, higher DTIs may be accepted for some refinancing programs.
Increase your cash reserves. Showing a lender that you have cash on hand to cover the mortgage in a financial emergency can strengthen your refinance request. Experts recommend keeping an emergency fund for at least three to six months of your usual expenses.
Shop around for different lenders. Get quotes that are based on simple inquiries that don’t hurt your credit. Also, find out what fees and closing costs you might be paying, which can help you determine whether to go ahead with the lender.
Seek advice based on your situation. Lenders can suggest loan programs and provide advice that can quickly improve your credit score, says Andrina Valdes, COO of Cornerstone Home Lending Inc. They “will likely give you specific advice if your credit score is high. needs a little attention, âshe says.
Boutique price within a 45 day window. Consider applying to at least three lenders to compare costs and get the best rate, even with bad credit. Multiple mortgage applications within two to six weeks will count as one serious application.
Options for refinancing your mortgage with bad credit
Here are some options to explore for refinancing with bad credit. Eligibility generally depends on who owns your mortgage and whether you meet the requirements.
FHA rate and term refinancing. You may be able to do FHA rate and term refinance with a credit score of 500 to 580, but these loans can be difficult to access. This is because you need to find an FHA approved lender, and lenders can add their own guidelines to the FHA rules.
FHA streamline refinancing. If your credit score is low and you have had an FHA mortgage for at least 210 days, you may be able to refinance through the downsizing program. Simplified refinancing is available in eligible and non-credit eligible options.
The difference between the two is that the lender can approve the ineligible loan without a credit check or home appraisal. You will need to prove that you have made six consecutive mortgage payments.
USDA has streamlined the refinancing of aid. Qualifying homeowners can refinance USDA loans without a credit check, DTI assessment, or home inspection. Applicants must be up to date with their mortgage payments within the 12 months prior to refinancing.
VA IRRRL. If you have a VA guaranteed home loan, you may be able to lower your monthly mortgage payments with this streamlined program. Loans generally don’t require a credit check or appraisal, and you can refinance up to 100% of your outstanding loan balance. You will need to prove that you have had the loan for at least 210 days and that you have made six consecutive monthly payments.
RefiNow by Fannie Mae or Refi Possible by Freddie Mac. These programs were developed to help lower income homeowners get refinancing more easily. Fannie Mae or Freddie Mac will need to own your loan to be eligible, and you must meet income, DTI ratio, payment history, and loan-to-value ratio requirements. However, the minimum credit score of 620 could put some borrowers out of the mix.
Talk to your current lender. Explain your situation and educate yourself on bad credit refinancing options. You may be offered a portfolio refinance loan, a mortgage that the lender creates and keeps instead of selling it on the secondary market. Lenders can set their own approval standards for these mortgages and can be more flexible with credit score requirements.
Should You Refinance With Bad Credit?
You will need to consider what you want from refinancing and whether you can achieve that goal to determine if refinancing is a good idea.
âWith rates currently low – which are expected to start rising soon – it might be a good idea to refinance now, even with bad credit,â says Valdes. “But if you can take the time to improve your credit over the next few months, then do it.”
Before you apply to refinance your mortgage, ask yourself these questions:
What do you want to accomplish? Before contacting a lender, âyou need to know why you are refinancing,â Okoroh says. “If it’s to save money, you have to have a realistic range in mind and ask the lender what it would take.”
Others might refinance to leverage their home equity, change loan terms, or abandon private mortgage insurance. Compare the pros and cons of mortgage refinancing, such as paying closing costs and being able to spend more interest in the long run.
What interest rate will you receive? While you can refinance a mortgage with bad credit, doing so is another matter. Borrowers with lower credit scores often receive higher interest rates than their excellent credit counterparts. But mortgage experts say refinancing can be a good idea if it reduces your interest rate by at least three-quarters of a percentage point.
What are the upfront costs? Refinancing loans come with closing costs, usually between 3% and 6% of the loan amount. You can build closing costs into your loan if you can’t pay cash or request refinancing without closing costs. However, lenders may charge a higher rate to recoup their costs, which may reduce your savings.
What is the breakeven point? Divide your closing costs by the amount you expect to save each month to determine how long you will need to recoup the initial loan costs. If you pay $ 5,000 to refinance and save $ 100 per month, you’ll break even in 50 months.
Should you delay refinancing? âRefinancing is not for everyone,â Okoroh says. If refinancing isn’t helping you meet your goals or dramatically increases your mortgage payments, you may want to consider hitting the pause button on your home loan search.
Have a loan officer run different scenarios, Okoroh says. You may find that if you increase your credit score by 50 points, then you can earn an interest rate that saves you money. The loan officer may also use software to estimate how various financial decisions can help or hurt your credit score and your chances of qualifying.
How Can You Improve Your Credit To Refinance?
If you decide to delay your refinance, you may be able to increase your credit rating by taking the following steps:
- Pay your bills on time. It is the most important factor that can influence your credit score.
- Reduce your debt. Try not to use more than 30% of the available credit on your credit cards, and pay off student loans and car loans if possible.
- Extract your credit reports from AnnualCreditReport.com. You can access each report online for free every week until April 2022. Look for inaccuracies and cases of fraud, which could lower your credit score. Dispute errors with credit reporting agencies.
- Become an authorized user. Ask someone with a strong credit history, like a family member or trusted friend, to add you to a credit card account.
- Avoid asking for a loan, which could raise questions about your financial stability.
- Keep credit card accounts open to maintain the length of your credit history.