If you were given the choice, would you live in an apartment or a house? Would you rent or own? Would you prefer to have poor credit or bad credit?
Creditworthiness: You have made the decision to own a home and now you are ready to approach a mortgage lender. How did you answer that third question? It’s probably the most important consideration – one that is overlooked by a home mortgage applicant.
Every person is entitled to a free credit report at least once each year. Yet, there are very few people who think to pull the report for themselves. The most common reason for this is possibly a lack of understanding about the information this report contains. Mortgage lenders need the financial information from your credit report to analyze your creditworthiness, gain an insight into your credit responsibility as well as the amount of credit outstanding compared to your ability to pay.
The lender is able to get a comprehensive Fair Isaac Corporation (FICO) score that serves as a snapshot of your financial health. The FICO scale has a range of 300-850. A score of 750-850 is considered excellent. 660-749 is considered to be a good score, while 620-659 will leave you on the edge of consideration for any conventional mortgage.
Poor Credit and Bad Credit Borrowers: The scores from 300-619 hover between poor credit and bad credit. Most conventional mortgage lenders may immediately deny an application based purely on a score within this range. The lower scores are most appealing to the predatory mortgage market lenders. They offer “teaser” rates to good people with bad credit who cannot afford to make a down payment or who might be looking for a 100% mortgage that includes all closing costs.
Usually these lenders will offer a very low introductory fixed interest rate that is good for 3, 5 or more years, adjusting on an annual basis after that period is over. This bad credit mortgage is called an Adjustable Rate Mortgage (ARM) and is a popular offering from lenders who prey on people who can least afford a mortgage. The initial adjustment is akin to sticker shock and may become a future contributor to a foreclosure action or bankruptcy if the borrower is not able to refinance the loan or restructure the payments.
There are several reasons why a borrower might have a poor credit score of 500-619. A stretch of unemployment could easily cause a disruption in payments to lenders, credit cards and even some aspects of housing. Serious illness is another contributing factor to poor credit. Finally, the person who is a cash-n-carry consumer has no credit history and, therefore, no credit score. It seems unusual today, but there are a few of those people around.
The Federal Housing Administration (FHA) Can Help: Any of the factors mentioned above would help the poor credit borrowers qualify for a good mortgage through the Federal Housing Administration (FHA) program. The FHA mortgages are guaranteed by the government and, therefore, lenders will not include a credit history when reviewing an FHA qualified application.
It is important to note that the FHA is not a lender. They merely guarantee payment of a mortgage for worthy borrowers with poor credit. The FHA program offers a fabulous opportunity for the homeowner who has credit problems to repair a poor credit history. This brings us directly back to the original question. Would you prefer to have poor credit or bad credit as you approach a mortgage lender?