You want to buy a home, but you know you have a low credit score and little money to put down on it. This sounds like a recipe for disaster. What lender will give you a loan, right?
Luckily, there are several loan programs you can turn to, all of which are government-backed loans. These loans carry a guaranty from the government. This means the government entity will pay the lender back a portion of the proceeds they lose if the borrower defaults. Because of this guaranty, lenders are able to write and fund loans for borrowers that would otherwise be ineligible for one.
Below are the most common loans that allow low down payments and low credit scores.
FHA loans have a reputation of being a first-time homebuyer’s loan. While it certainly can be used for that purpose, it’s open to anyone that meets the FHA criteria.
One of the most notable facts about the FHA loan is the low down payment requirements. You only need to put down 3.5% on the home to secure FHA financing. On a $200,000 home, that’s $7,000. That may still seem like a lot, but there’s another catch. You don’t have to put any of your own money down on the home; 100% of the funds can come from an acceptable gift source. This may include relatives, your employer, or a charitable organization.
FHA loans also have the reputation of allowing low credit scores. Today, you only need a 580 credit score to secure FHA financing. That’s 100 points less than conventional loans require. With at least a 580 score, you can get away with putting down just 3.5% on the home.
The FHA also allows an exception when it comes to credit scores. They allow lenders to fund loans for borrowers with a credit score as low as 500. In exchange for the lower credit score, though, the down payment requirements increase. You would need 10% down on the home in this case. You can still accept gift funds to help with the down payment, but 3.5% of the down payment must come from your own funds.
USDA loans are another government-backed loan with a guarantee. The credit score requirements for this program are slightly higher, but still lower than conventional loans. Today, you need at least a 640 credit score to qualify.
With that 640 credit score, you can obtain 100% financing for a home. This means you don’t have to put any money down on the home. The only money you would have to bring to the closing is the money for closing costs and the upfront mortgage insurance the USDA charges. The upfront mortgage insurance is equal to 1% of your loan amount. On a $150,000 loan, you would owe $1,500 for upfront mortgage insurance. You would also pay 0.35% of the loan amount per year on a monthly basis for additional mortgage insurance.
In order to secure a USDA loan, though, you must buy a rural property. The USDA has loose guidelines when it comes to defining rural properties, though. Looking at their map, you may find areas that are just outside of the city lines that qualify, which you may not even think would be rural.
If you are a veteran that served our country for at least 90 days during wartime or 181 days during peacetime, you may be eligible for a VA loan. You may also be eligible if you served in the National Guard or Reserves for at least 6 years.
The VA loan provides 100% financing for eligible veterans. This means you don’t need your own down payment. You would only be responsible for the closing costs on the loan and the VA funding fee. The VA funding fee is equal to 2.15% of your loan amount if you served in the regular military and 2.4% of your loan amount if you served in the National Guard or Reserves.
The VA doesn’t have a minimum credit score that they require, like the FHA and USDA do. Because the VA doesn’t underwrite or fund the loans, though, many lenders set a minimum credit score. On average, you will find that you need a 620 to secure VA financing, however, this could vary by lender. If you have a credit score lower than 620, you may have to shop around a bit to find a willing lender.
Each of these government-backed programs gives you the opportunity to secure financing with a low down payment and/or a low credit score. We recommend that you apply with at least three lenders to find the loan program that suits you the best as well as the best interest rate/closing costs to make your loan as affordable as possible.