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Dr. Don Taylor, CFA, Bankrate.com advice columnistRefinancing with a bad credit score

Dear Dr. Don,
We are in our last year of a 3/1 ARM 5.75 percent conventional loan. The ARM was the best choice at the time because of our low credit score. We refinanced to this from a fixed-rate loan to do some home renovations. The original fixed-rate loan was an 8.75 percent FHA loan.

Our credit score is not much better now. We were trying to repair our damaged credit in the past three years. However we had two job changes that prevented us from catching up.

Our credit scores are around 529 with unpaid credit cards we are still working on. What do we do now that the initial rate is about to end?
Thanks,
-- Ann Adjustment

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Dear Ann,
If I were in your position, I would stay in the existing mortgage until I could bring up my credit score and take my chances on refinancing at a better interest rate after I got my credit under control. According to myFICO.com, a credit score of 529 would currently qualify you for a fixed-rate mortgage at an interest rate a little over 11 percent.

You should figure out what the fully-indexed rate on your existing adjustable mortgage will be when the 5.75 percent rate ends. The interest rate on an adjustable-rate mortgage (ARM) is reset at a spread to the current value of an interest rate or interest-rate index. You can follow the changes in your index using Bankrate's Rate Watch feature. Your loan might have caps on how much the interest rate can increase in a year and over the lifetime of the loan. If you can't figure it out from the loan documents, talk to your lender.

Get current and stay current on your credit cards. Make every loan payment on time. Pay down the credit card balances the best you can. These steps will help you improve your credit history and by doing that your credit score. While mortgage interest rates are trending higher, especially ARMs, there are no bargains to be had in refinancing now when your credit scores are this low.

To ask a question of Dr. Don, go to the "Ask the Experts" page, and select one of these topics: "financing a home," "saving & investing" or "money."

Bankrate.com's corrections policy -- Posted: Aug. 9, 2006
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