Credit Score Limbo: How Low Can You Go When Buying a Home?

Applying for a home loan with a low credit score can feel like playing a game of limbo.  Having a mortgage application denied can feel like being in limbo. 

Borrowers that do not initially qualify for a mortgage due to their credit score can shorten the time they are in credit-rebuilding-limbo with a few simple steps.  Although, it might be helpful to first understand how credit scores are used when buying a home.

Lenders pull a tri-merge credit report from all three bureaus for each potential borrower.  All lenders use the middle score, which for many lenders needs to be no less than 640 in order to qualify a borrower for a mortgage.  

If the applicant’s score does not meet the cut off, the lender will then try to determine the cause of the low credit score.  Collections and judgments are common causes of low credit scores, and must be paid before the mortgage application can be approved. 

Medical collections are different.  Medical debt that collectively adds up to less than $1,000 does not have to be paid off in order to be approved for a mortgage, so long as that debt does not affect the credit score.  Lenders will vary on this rule.  You should ask your lender about medical collections before you do anything with them.

Some creditors will take longer to update paid debts than they do to turn over the debt to collections in the first place.   In this instance, the lender can use written proof that the debt has been paid.  The document must show all the account information, borrower name, and company letterhead.  For the revolving debt, or credit card accounts, the credit bureaus like to see you utilize your revolving credit, but not too much.  It is suggested that the balance remain under 40% of the credit limit to ensure the outstanding debt can be handled and paid timely.  As always, if you remit more than the minimum payment, it is looked upon in a positive manner to show the bureaus continue credit worthiness.

Completing this step is sometimes all it takes to increase a borrower’s credit score that fell just below the cut off.  If a borrower’s credit score is too far below 640, than they may be in credit-rebuilding-limbo for a while. There are still additional ways to speed up the process.

Potential borrowers can gather up documents that show they have been regularly paying their debts, and overnight them with return receipt requests to each of the credit bureaus.  The credit bureaus will then research and update the borrower’s credit score. This usually occurs within a few months.  

Lastly, borrowers may not have to pay off all of their debt in order to qualify for a mortgage. There is a calculation system, available to some most lenders, which allows them to see how credit scores would be affected if the borrower paid off a percentage or the balance of their debt.  Although it is not a certainty, it typically helps borrowers know where they need to be in order to take out a mortgage. 

As the potential borrower pays off their debt and gathers documentation, it is always good to stay in contact with the mortgage loan officer and/or the person that is assisting you in repairing your credit.

If you have any additional questions about how credit scores affect the home buying process, please call Stuart directly at 410.491.0200 or email at septstein@baybankmd.com.