A question that is frequently asked is: are there FHA loans for bad credit? The answer is yes. FHA loans are available with as low as 500 credit score on home purchase, refinance, and cash out refinance. These are federally insured mortgages with competitive rates and costs, and have less strict rules than conventional loans.
Below you’ll find everything you need to know about getting approved for an FHA loan even if you have poor credit.
Yes, it is possible to get approved for FHA loans for bad credit even if your middle credit score is 500. But if you are below 550 credit score, it can become a bit more challenging.
In fact, I would argue that many lenders flat out say that it’s not possible to get approved on an FHA loan if you’re below 580 credit. That’s absolutely not true.
With that said, not all FHA loans for bad credit are approved.
Here are some of the main factors that underwriters look at when considering an approval on a low credit FHA loan (and all FHA loans for that matter):
Key Points – FHA Loan Requirements
- Credit score – the underwriter will use the middle credit score for a qualifying score. So if you’re 498, 552, and 509, the qualifying score will be 509. If you only have 2 credit scores, the lower of the 2 scores will be used.
- Debt-to-income ratio – Typically you want to be below 43% debt-to-income ratio. This means if your monthly debt is 5,000 (including your mortgage) then your monthly income would need to be 11,700/month. However, there are some cases where FHA loans can get approved up to 57% debt-to-income ratio.
- Equity (or down payment) – Loan-to-value Ratio
- Home Purchase – On a home purchase, if your credit is below 580 credit score, the minimum down payment is 10%. If you’re above 580 credit score, the minimum down payment on FHA is 3.5%.
- Refinance – On a refinance or cash out refinance, the maximum loan to value ratio is 85% (or 15% equity). So if the home value is $300,000, max loan amount would be $255,000
- Payment history – If you have more than 1 payment that is over 30 days late on your mortgage in the last 12 months, the loan is probably not going to get approved on FHA. Same goes for other installment types of loans like car loans and student loans.
- Recent credit events
- Bankruptcy – For FHA you need 2 years to pass after chapter 7 bankruptcy, and 12 months on time payments to pass on a chapter 13 bankruptcy.
- Foreclosure and short sale – 3 year waiting period on FHA from when the title was transferred out of your name until you can purchase or refinance a home.
- Only allowed on primary residence. No vacation home or investment property allowed
Max Loan Limit
There are also loan limit maximums that vary from county to county all across the US. Check max FHA loan limit in your county here.
Automated Underwrite vs. Manual Underwrite
There are two different ways that FHA loans for bad credit are underwritten – Automated and Manually.
When a lender accepts your mortgage application, the data on your application is run through a desktop (digital) underwriting system. The desktop underwriting system weighs all factors of your application. That data includes credit scores, loan-to-value ratio, debt-to-income ratio and pretty much everything I described in the above “key points”.
The desktop underwriting system will determine eligibility with a response of Approve/Eligible, Refer/Eligible, or Refer with caution.
Findings
- Approve/Eligible – means the loan will be underwritten based on normal FHA standards and current application appears to meet FHA guidelines.
- Refer/Eligible – means the loan will be heavily scrutinized and current application may not meet FHA guidelines.
- Refer with caution – means the loan does not meet FHA guidelines and application cannot proceed with FHA loan.
The goal is to get Approve/Eligible findings in order to proceed with loan process with as little friction as possible. You still need to provide supporting docs (income, assets, ID, etc.).
If you have Refer/Eligible findings the payment history requirements and debt-to-income ratio requirements are more strict. The loan needs to be manually underwritten to determine eligibility. Many lenders to not allow manual underwrite due to being labor intensive, but some lenders do.
More on manual underwrite mortgage here.
If you have poor credit and you don’t meet the requirements for FHA, there are alternatives.
A portfolio loan may be your solution if you do not meet FHA standards.
Portfolio loans are mortgages that have non-traditional lending standards and have a more common sense approach to the approval process.
For example: let’s say you have a 516 credit score, and 40% equity in your home, but you missed 3 mortgage payments in the last 12 months due to a temporary layoff at work. That scenario wouldn’t work on an FHA loan because of the late payments, but with a portfolio loan you’d have a chance to get approved.
Portfolio loans are a temporary fix, for temporary circ*mstances. Typically, borrowers refinance out of their portfolio loan after 6-12 months of successful on time payments, and get back into something more traditional.
Key Points – Portfolio Loan Requirements
- As low as 500 credit score
- Available on primary residence, vacation home, and investment property
- Available on home purchase, refinance, and cash out refinance
- No PMI
- Alternative documentation loans available for self-employed borrowers and real estate investors
- Minimum down payment on home purchase is 10%
- Maximum debt-to-income ratio is 50% with compensating factors
- Recent bankruptcy, short-sale, foreclosure okay
More on portfolio loans here.
In Summary
An FHA loan is a great option to explore even if your credit is as low as 500. And if it turns out you don’t qualify for FHA, a portfolio loan may be a perfect alternative. If you’re not sure if you qualify whether you have good or bad credit please feel free to reach out.
I have been able to help many homeowners who have been told by other lenders that they don’t qualify.
I invite you to reach out.
I invite you to reach out.Get your questions answered.
If I cannot help, I should be able to point you in the right direction at the very least.
Adam Lesner | NMLS 198818
Michigan, Massachusetts, and Florida. Also offering financing in most states across the US including (but not limited to) Georgia, North Carolina, South Carolina, Alabama, Arizona,
California, Colorado, Delaware, Washington DC, Illinois, Indiana, Iowa, Kentucky, Louisiana, Maryland, Minnesota, Missouri, Ohio, Oklahoma, Oregon, Tennessee, Virginia, Wisconsin.
