Love And Mortgage: When One Borrower Has Bad Credit
If you buy a house and apply for a mortgage with another person, everyone’s credit counts. This presents a dilemma when one applicant’s FICO score is less-than-lovely: how to buy a house with credit problems.
You have a few solutions, depending on the cause of the low credit score and the overall strength of your application.
Lenders Look High And Low
Unfortunately, you can’t offset your co-borrower’s horrible history with your own pristine past. Even worse, it’s the applicant with the lowest “representative” credit score who determines how much the loan costs, or if you even qualify for financing.
What’s a “representative” credit score? It depends. Mortgage lenders almost always pull a “merged” credit report that provides at least two and usually three credit scores from Experian, Equifax and / or TransUnion.
If there are two scores, they use the lowest as the “representative” credit score. With three scores, lenders use the middle one.
Do You Need Your Partner’s Income To Qualify?
Before undertaking a doomed application, use a mortgage calculator to see if you can qualify for the loan on your own. If your income is sufficient, you can leave your partner off the mortgage altogether.
You can always add her to the property title once the mortgage closes. However, doing this gives your partner some ownership interest in the property, while you would be the only one obligated by the mortgage.
Note that if you have joint bank and investment accounts, this money can be used for your down payment and counted as an asset on your mortgage application. Your partner will have to write a letter stating that you have access to 100 percent of the jointly-held funds.
Money in accounts that are solely in her name won’t be considered assets available to you under most program guidelines.
HomeReady® And Home Possible® Programs Cut You Some Slack
If your income leaves you a little short of being able to qualify for a home loan, you still have options.
Fannie Mae and Freddie Mac lenders both offer a flexible program that allows eligible borrowers to consider income from non-borrowing members of their households.
Under these programs, lenders allow you to stretch the debt-to-income guidelines. Instead of maxing out at 43 percent, you may be allowed a debt-to-income (DTI) ratio of up to 50 percent.
For instance, suppose your application looks like this:
- Gross income: $5,000 per month
- Proposed house payment (principal, interest, taxes and insurance: $1,900
- Other payments: auto financing, student loans, credit cards, etc.: $500 a month
- DTI ratio: $2,400 / $5,000 = 48 percent
That’s too high; you won’t qualify for financing under most programs.
If your girlfriend has verifiable income of at least 30 percent of yours ($1,500 a month in this case), the lender can approve your loan. Your DTI can be as high as 50 percent.
HomeReady® And Home Possible® Eligibility
These programs are not available to everyone. Your income must be high enough to qualify for financing, but not exceed program limits. These limits depend on the property location.
In most cases, the limit is 100 percent of your Area Median Income (AMI). This lookup tool from Fannie Mae lets you input the property address and determines its income limit.
How To Buy A House With Government Financing
Government-backed mortgages like FHA, VA and (sometimes) USDA offer more flexibility regarding credit scores. If your girlfriend has a low FICO because she has a limited credit history, you can probably get a home loan.
If her bad credit was caused by an event out of her control, you may overcome a low score. Or if her FICO is low because of bad debt management in the distant past, it may be overlooked.
You’ll have better luck if you have a low DTI, an emergency savings account, and / or a larger down payment.
However, if your girlfriend’s credit is a rap sheet of missed payments, charge-offs, collections and judgments, you won’t be able to finance a house with her on the mortgage under these programs.
The good news is that government mortgage guidelines do consider the non-borrowing partner’s income as a “compensating factor,” and you may be approved with a DTI of up to 50 percent with your good credit.
Non-Prime Alternatives For Co-Borrowers With Bad Credit
Some lenders actually specialize in financing people in your situation. For instance, one San Diego-based lender allows FICO scores as low as 500.
You’ll have to make a larger down payment (at least 15 percent), and interest rates start at about two percent higher than prime home loan rates.
Help Your Girlfriend Improve Her Credit
You may be able to help your girlfriend improve her FICO scores and make her eligible for financing. Here are a few tips for rapidly increasing a score:
- Add her to your own accounts as an authorized user. She doesn’t actually need to use your accounts, but your payment history will become part of her credit report and score.
- If her balances are too high, consider making her a personal loan to pay them down or off.
- Your mortgage lender may be able to help if credit reporting errors are causing the low score. This process is called “rapid re-scoring” and is available only through mortgage lenders.
If her spending habits are not good, you might want to put off buying a home with her until she completes credit counseling or some form of financial education and gets her credit use under control.