7 mortgage refinance options for people with bad credit

6 min read

Can you refinance your mortgage with bad credit? The short answer is yes you can.

Various refinancing options exist for those with tarnished credit including an FHA Streamline Refinance and the FHA Rate-and-Term Refinance loan.

In addition, other types of refinancing loans, including some from the U.S. Department of Veterans Affairs, give lenders wide latitude to work with homeowners who have damaged credit, though the exact requirements will vary by lender.

About 20.5 percent of homeowners who refinanced in January 2019 had FICO scores of between 650 to 699 on a scale of 300 to 850, according to mortgage software company Ellie Mae. In addition, 9.9 percent had credit scores between 600 and 649. So, while refinancing with fair or bad credit isn’t ideal, it is possible.

If you have blemished credit and want to refinance your mortgage, here’s how to get a home loan with bad credit:

1. Try your own lender first

A good place to start your search for a mortgage refi is your current mortgage lender, says Leslie Tayne, a financial debt resolution attorney and author of “Life & Debt.”

“If you’ve built a positive history with your lender and have been making payments on time, they may be willing to work with you,” Tayne said.

Your current lender, she said, won’t only be looking at your credit score. Your debt-to-income ratio, current income and loan-to-value ratio will also be considered.

Starting your search with your current lender can serve as a benchmark to compare offers from other lenders or other refinance options.

Be sure to let your bank know that you’re going to be shopping around for the best rates and terms. In many cases, the bank may be motivated to give you a deal if it wants to keep your business.

“If your bank is offering a high rate, leverage your positive relationship with them and let them know that you’re considering other options,” Tayne said. “They may make adjustments to keep your business.”

2. Try FHA’s Streamline Refinance program

If you already have an FHA mortgage, the federal agency has a refi deal for you — its Streamline Refinance program allows borrowers to refinance existing FHA loans to a lower rate faster by eliminating a great deal of paperwork.

This type of FHA refinance doesn’t require a full credit check or income verification. Many applicants are also able to skip the appraisal requirement.

“The FHA Streamline Refinance program is a good option for those with bad credit who have FHA loans,” said Tayne. “FHA lenders are also generally willing to work with those with low credit scores, sometimes as low as 500.” Fico scores below 579 are considered “very poor.”

Program requirements include:

  • Your current mortgage must already be FHA insured;
  • You must be in good standing with your current mortgage. Specifically, this means no missed payments. In addition, you must have made at least six monthly payments and have had your existing mortgage for a minimum of 210 days before applying for the Streamline Refinance option.

And one additional important note, these loans must also result in a “tangible benefit” for the borrower. In other words, homeowners must be able to cut the repayment term or slice their interest rate.

“You must show that you have a quantifiable benefit from refinancing, whether it be a lower interest rate, lower monthly payment, or switching from a variable-rate to a fixed-rate mortgage,” explained Tayne.

It’s also important to understand that the FHA Streamline Refinance loans aren’t cash-out refinancing programs. The main benefit of this loan option is to permanently lower your monthly payments.

3. Check out an FHA ‘Rate-and-Term’ refinance loan

If you don’t have an FHA mortgage, you can still get an FHA refinance loan via the Rate-and- Term program.

This option is a no cash-out refinance of any mortgage and all proceeds must be used to pay your existing mortgage and costs associated with the transaction.

“Rate-and-Term refinancing is similar to streamline refinancing but involves switching from a non-FHA loan to an FHA loan,” Tayne said.

A new appraisal and credit check, however, are required as part of this refinance. However, homeowners with lower credit scores have gotten approval for this type of loan. The absolute floor for acceptable credit scores is 500, according to the HUD Handbook 4000.1.

The program also limits this refinance option to owner-occupied principal residences and HUD-approved secondary residences.

In order to boost your eligibility for this refinancing program, try to lower your debt-to-income ratio, and be able to show 12 months of on-time payments for all financial obligations.

4. Apply for a VA refinancing loan, if eligible

The Department of Veterans Affairs (VA) doesn’t require an appraisal or credit underwriting for the VA’s Interest Rate Reduction Refinance Loan, or IRRRL.

What’s more, an IRRRL may be done with no money out of pocket by including all closing costs in the new loan or by making the new loan at an interest rate high enough to enable the lender to pay the costs.

VA refinancing is very easy and quick, there’s no new appraisal and there’s reduced paperwork,” said Andrew Pizor, a staff attorney with the National Consumer Law Center in Washington, D.C.

The program’s main requirements include:

  • You already have a VA-backed mortgage
  • Are using the IRRRL to refinance your existing VA-backed home loan
  • Can certify that you currently live in or used to live in the home covered by the loan

IRRRL loans are designed to help applicants lower their monthly mortgage payments by providing a lower interest rate. They’re also helpful for those looking to make monthly payments more stable by transitioning away from a loan with an adjustable or variable interest rate to a fixed-rate loan.

It’s also important to note that IRRRLs have some new requirement guidelines, said Chris Birk, director of education at Veterans United Home Loans.

“Homeowners will need to have made at least six monthly mortgage payments on their current VA loan and meet additional seasoning guidelines,” Birk said.

Some of those additional guidelines include that all of the costs, fees and expenses incurred by the veteran as part of the refinance must be recouped within 36 months from the closing. There are also rate-reduction requirements, which vary depending on whether you’re refinancing into a fixed- or adjustable-rate loan, said Birk.

Those wishing to pursue an IRRRL won’t go directly thru the VA, but rather through a private bank, mortgage company or credit union.

5. Consider a portfolio refinance loan

Another refinance option if you have bad credit is what’s often called a “portfolio loan.”

Portfolio loans are conducted through private lenders who are able to set their own requirements and do their own underwriting. In other words, the conditions for things like credit, bankruptcy, income, employment, late mortgage payments and liquid assets can vary widely.

“Portfolio loans can be helpful for those with bad credit because they look beyond your credit score to understand more about you as a person and what caused your bad credit score,” Tayne said.

To find out about these loans, work with a mortgage broker or a full-service mortgage lender who can shop your potential refinance loan to portfolio lenders.

“However, be aware that with the accommodation for low credit scores, portfolio loans may come with high interest rates or upfront costs,” said Tayne.

If you can’t get a loan after trying two or three different brokers, it may be time to shelve the idea and work on improving your credit.

6. Take a bad-credit co-signer off the loan

If only one person on the mortgage has bad credit, you might consider taking that person off the mortgage refinancing application.

Note that this gambit only works if the good-credit partner can qualify for the refi on his or her income alone. It’s also a tactic to be approached with caution, Pizor said.

“I would be very careful and talk to a lawyer first,” said Pizor, adding that you want to change the names on the mortgage, not the home’s ownership. Make sure both parties remain on the deed.

“If one partner is not on the deed they can lose their protections or rights to the property,” said Pizor.

You’ll also want to talk with both a family law attorney and real estate attorney about any contingencies, insurance or special paperwork (wills, post-nuptial agreements, etc.) that might need to be in place. You want to make sure that both parties are protected in case of disability, death or divorce.

7. Work to improve your finances and credit

If none of the above options work for you, it may be a good idea to take a step back and evaluate your overall financial situation.

“People need to think about why they want to refinance,” Pizor said. “If it’s because they are having trouble paying their current mortgage and they are having money problems, go talk to a housing counselor, or some kind of budget counselor.”

It’s also a good time to start working on improving your credit.

“Pay off debts and work on your debt-to-income ratio and save money; (it) may help you get better rates later on,” said Tayne. “Understand why your credit is bad and work on it.”

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