If you’re in need of a mortgage loan and you have bad credit, you may be feeling hopeless about your chances of securing it.
However, in today’s day and age, it actually is possible to secure a mortgage even with a poor credit score.
Today, I’ll be detailing how bad credit mortgages work, how you can find one and what actions you should take in order to secure one for yourself.
What is Credit Score and How Can it Affect My Chances of Getting a Mortgage?
Your credit score defines how well you’ve handled your finances in the past. It’s calculated using your credit history report.
You can keep your credit score healthy by making regular repayments and paying off all your debts on time.
Keeping your credit card balance in check and regularly paying household bills can also help you improve your credit score within a short period of time.
Of course, a mortgage lender would be more inclined to grant you a loan if they look at your credit history and see that you’ve always paid your debts on time.
Missed payments on your debts or defaulting on a loan can severely negatively impact your credit score.
Debt solutions such as IVAs or DMPs also have a very severe negative impact on your credit score.
While you may think that having a bad credit score kills your chances of securing a mortgage, the truth is that different lenders have different criteria through which they judge your application.
How Do I Know if I have Bad Credit?
You may have gotten rejected by a lender and now you may be thinking that you have bad credit. While this may certainly be the case but you also have to keep in mind that different lenders have different criteria.
Your credit history may reflect more positively with a different lender and they may be more inclined to grant you a mortgage.
However, it’s definitely a good idea to check what your credit score is in order to have a better idea of where you stand.
You can check your credit score through Experian or Equifax.
Typically, a good credit score is considered to be:
- At least 420 out of 700 for Equifax.
- At least 880 out of 999 for Experian.
If you have a credit score above this, then you will most likely be approved for a mortgage.
Anything below this and you may have trouble securing a regular mortgage.
However, you must keep in mind that having a poor credit rating is not the end of the world. There do exist lenders that specialise in giving loans to people with bad credit.
These types of mortgage loans are typically called bad credit mortgages, adverse credit mortgages or sub-prime mortgages.
What is the Difference between Good Debt and Bad Debt?
While debts should generally be avoided, there are often some types of debts which can actually be a prudent way of you acquiring certain assets.
Let us discuss briefly about the differences between a good debt and a bad debt:
A good debt is simply a debt which is a sensible investment which will not affect your financial situation and will be useful for you in the long term.
This would be an investment which you have thought long about and you have a detailed plan about how you’re going to pay it off. This is usually in affordable monthly payments.
Furthermore, a good debt is typically something that can also “pay for itself”. An example of this would be a car loan that you would use to get a car which you would then use to commute to your job every day.
Some other examples of good debt are:
- Student loans. Taking out a student loan can help you get through university and become a graduate. This will most likely help you secure a job and be financially stable.
- Mortgage loans. A mortgage helps you secure a house for yourself. This house will eventually become a very valuable asset for you and will only grow in value over time. Not to mention that monthly mortgage payments are often cheaper than rent.
- A loan to invest into your own business. If you’re starting up a business, you may need some extra cash in order to set it up. Thus, a calculated loan to get it started can actually be a very smart decision. Once your business starts gaining traction, not only will you be able to pay off your debt but your business will be worth much more than the loan you originally took out.
Bad debts are usually ones that drain your wealth by a substantial amount, they are often used for items you don’t need and they have no possibility of “paying for themselves”.
Bad debts often also have no real repayment plans and they often occur when people make impulse purchases of unnecessary items.
If you cannot afford to pay back a debt through regular monthly instalments, then it’s most likely a bad debt.
Keep in mind that even the examples of good debts that we gave above can be bad debts if you can’t realistically pay them back.
In most cases, this could be catastrophic. For example, your home may be repossessed if you fail to regularly make repayments on your mortgage.
Some examples of bad debts include a loan taken out to go to a luxury holiday that you can’t afford, a loan taken out to buy a luxury car you don’t need, etc.
Please note that if you’re struggling to pay household and utility bills at the end of each month, you should not consider getting a loan in order to pay them off as that’s an example of bad debt as well.
This is because while you may be able to pay off your bills in the short term, you’re still going to have trouble with them in the future. Furthermore, you’ll have to be making payments towards the loan you took out as well as your future bills.
If you’re struggling with your bills, it’s a good idea to seek advice from a professional so that they can help you with your finances.
What is a Bad Credit Mortgage?
A bad credit (or adverse credit) mortgage is a mortgage loan that is likely to be approved even if you have a bad credit rating.
Bad credit mortgages often have higher interest rates than regular mortgages in order to offset the risk involved with lending money to someone with bad credit.
An adverse credit mortgage may include other restrictions as well such as a minimum monthly payment or maximum or minimum age limit for the debtor.
Adverse credit mortgages having high interest rates means that it’s better for you to pay off the debts as soon as you can rather than to drag the payments out.
This is because the more you drag them out, the more you’ll be paying in interest rather than towards your actual mortgage loan.
Some bad credit mortgage lenders may also reduce their Loan-to-Value (LTV) ratios in order to further offset the risk involved.
The LTV ratio defines what percentage of the property you want the mortgage lender to buy for you. You will have to cover the remaining value yourself through a deposit.
Keep in mind that most, if not all, of the adverse credit mortgage lenders registered in England will be authorised and regulated by the Financial Conduct Authority.
This means that they will have to abide by FCA guidelines and you can complain to them if you feel you’re being pressured to pay more than you can afford.
What Should I Do Before Applying for a Bad Credit Mortgage?
There are some things you should definitely look at before applying for an adverse credit mortgage.
Firstly, it’s a very good idea to get a copy of your credit file and go over it thoroughly.
You may find that there are some errors or payments mentioned in it that you have already paid off. You could get these fixed and improve your credit rating dramatically.
It’s also a good idea to pay off any debts that you can afford to immediately. This will help you improve your credit rating prior to applying to get a mortgage.
Look at your monthly expenditures and income; This will help you get an estimate of how much you can afford in monthly repayments towards your mortgage.
You can then use these figures to look up potential mortgage lenders that would be suitable for you.
Lastly, when you apply to get a mortgage, be sure to be honest about any blemishes on your credit history.
Although bad credit mortgage lenders provide loans to people with bad credit, they will not respond well to dishonesty.
Be sure to explain thoroughly why your credit rating is in the state that it is and what you’re doing to improve it.
I just have one thing to say in the end: having a bad credit rating is not the end of the world.
There are several options available to you but you have to be willing to explore them.
With the right research and planning, you can definitely secure an affordable and effective mortgage for yourself even with bad credit.