Source: Bankrate —
After a year dominated by continual mortgage rate increases, the pendulum has begun to swing in the opposite direction: Rates are slowly declining. As of early February, rates on a 30-year-mortgage had dropped to 6.3 percent. Though that’s nowhere near the rock bottom 3 percent rates that were common just a few years ago, it’s still a notable drop from rates that were in excess of 7 percent in late 2022. And they’re expected to hold steady for a while: skyrocketing rises seem to be over, at least for now.
If you’re hoping to refinance in order to switch from an adjustable rate mortgage to a fixed rate mortgage or you want to tap into home equity, the environment is growing more favorable. For those who have bad credit however, even the most recent round of rate decreases may not be all that helpful. With subpar credit, you’re still likely to be charged a steep interest rate in order to refinance. But there are ways to cope.
Can you refinance your mortgage with bad credit?
The first thing you need to do when considering refinancing is to know your credit score and to understand what mortgage lenders are looking for in a borrower’s refinance application.
In general, a credit score of between 670 and 739 is considered good; scores between 580 and 669 are considered fair and anything below 580 is considered poor. When it comes to the credit score needed to refinance, 620 tends to be the minimum for a conventional loan. FHA refinances are possible if your credit score is as low as the mid-500s.
Your credit score is important to lenders because it provides an indication of how likely you are to repay a loan in a timely, reliable fashion. An applicant with a lower credit score represents a greater risk for lenders. Lenders will seek to mitigate that risk by charging you a steeper interest rate.
These concerns of lenders exist no matter where interest rates are (though of course the higher the rate, the more crucial your financial soundness becomes). If a lender approves your refinance application, they’re likely to require that you pay a steep interest rate on the loan. It is important to note, however, that there are lenders who work with borrowers with lower credit scores as outlined below.
Options to refinance your mortgage with low credit score
1. Try your own mortgage lender first
Mortgage lenders focus on forming relationships with borrowers. If you’re trying to refinance but have bad credit, you’ll need to spend some time finding an option that works for your unique financial picture. This effort should start with your current lender or loan servicer since you are already their customer.
If your mortgage is with a financial institution, contact the officer or employee you dealt with originally, if they are still there. If not, “get a referral to a specific person,” advises Leslie Tayne, a financial debt resolution attorney with Tayne Law Group and author of “Life & Debt.” “Having the name of someone and something in common like the referral source is an excellent way to start building the relationship. Explain your needs and find out the options the bank can offer to you.”
What you really want is the benefit of the doubt. If a lender looks at your debt-to-income ratio (DTI) and your loan-to-value ratio (LTV), as well as other factors, and your application is in a gray zone, it can go either way. You want a “yes” — and if you have a relationship with the lender, perhaps even having checking or savings accounts with them, then maybe that will be in your favor.
“Communicate often and be prepared with the [financials] the bank will be requesting to back up your request for funding,” says Tayne. “Being organized and responsive is vital. The banker will appreciate you helping him/her do their job better, which is to put the loan together for underwriting.”
Banks that will refinance with bad credit
If you have low credit and are hoping to refinance your mortgage, don’t despair. There are low credit score mortgage lenders who will work with you. This includes mortgage companies, online lenders and well-known traditional brick and mortar banks such as U.S. Bank that work with borrowers who have subpar credit.
If you’re interested in refinancing, it’s important to dedicate some time to researching the various offers and options. And as you’re shopping around pay particular attention to the interest rates and APRs that each lender is offering for individuals with low credit scores.
2. Check out an FHA streamline refinance
If you want to refinance and you have an FHA loan, the FHA streamline refinance program can be a great option. The average credit score for a borrower who refinanced an FHA loan between October and December of 2021 was 657, according to the U.S. Department of Housing and Urban Development, with the minimum credit score to refinance of 580. However, borrowers with credit scores as low as 500 but with home equity of 10 percent or more may be approved for refinancing.
Characteristics of the FHA streamline refinance program:
- Limited paperwork requirements.You don’t need a lot of new paperwork, since streamline refinancing requires limited borrower credit documentation and underwriting. What the lender must have is evidence that your most recent six consecutive mortgage payments were paid on time and in full.
- Mortgage insurance premium refund. If you refinance within three years of when your current FHA loan closed, you might be able to get some of your upfront mortgage insurance premium refunded. This can help offset the cost of refinancing.
- Net tangible benefits. The refinance must produce a “net tangible benefit,” such as a 5 percent reduction in your monthly mortgage payment or a change from adjustable-rate financing to a fixed-rate loan.
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