To refinance with bad credit, assess your credit situation and understand your score.
Refinancing a home mortgage with bad credit is possible, and there are several options available for people with credit scores below 600. Granted, you’ll have to dive deeper for the solution, and you may have to provide extra documentation or put down more money to get full approval.
We worked with an expert mortgage lender to explain how to refinance a mortgage with bad credit. We’ll also provide the refinance types available to those with bad credit and what you should know about the application process.
Tips for Refinancing a Mortgage with Bad Credit
Here are a few tips for people with bad credit looking to refinance their home mortgage.
Improve Your Credit
Reed Letson, owner of Elevation Mortgage, has worked with several clients with credit scores below 600 and says his first tip is to raise that number.
“The good news is they have options [for refinancing], but if they want the best terms, I recommend focusing on credit repair first,” he says. Improving your credit will help you to get better rates and terms and open up more options for you.
“If you’re in a time crunch and do not have the time to fix your credit, be prepared for higher interest rates as these loans are more risky for the lender,” Letson notes.
Another tip: Document your credit repair journey. One way to do this is to write up a letter of explanation (LOX) that outlines and clarifies how your credit dropped, the steps you’ve taken to improve it, any derogatory items (such as unpaid debts) that you’ve cleared up and what you’re doing to prevent your credit from dropping again.
RELATED: Best Mortgage Lenders for Poor Credit
Know Your Goals
Having a clear idea of what you want to accomplish by refinancing your home will help you find the best lender. Is your goal to have lower mortgage payments or to pay your mortgage off quickly? Is it to attain money for other home improvements or to pay off some bills? Having a clear goal will help you make the best decision.
Know the Value of Your Home
While not every refinancing loan requires an appraisal, it’s important to know the value of your home. Check online to see what similar homes in your area have sold for, and then compare your home’s current value to the principal on your loan.
Does it look like you have a decent amount of equity in your home, or do you owe more than your home is worth? Know your home value, or at least have a good idea about it when preparing for a refinance.
Shop Around or Negotiate With Your Lender
Begin by shopping around to see what lenders offer in terms of rates, fees, communication and timelines. If you are satisfied with your lender, try to negotiate with what you’ve found and decide on the best path.
Mortgage Refinance Options for People With Bad Credit
If you want to refinance your home mortgage while improving your credit, here are a few financial products that could help you achieve both goals.
1. Cash-Out Refinance
You are already in a good spot if you have equity in your home. Gaining equity comes from the value of your home increasing because of market changes, recently sold homes in your area and paying down the principal on your mortgage.
In a cash-out refinance, you can borrow from your equity and replace your old mortgage with a new one. The new mortgage will include the borrowed amount and your old mortgage principal. However, the amount you borrowed will be given to you in cash.
This is a great option for borrowers with home equity who could use the cash to pay down other bills and get back on their feet. If you can manage a cash-out refinance, take the cash to pay off credit cards and other high-interest bills. Even with mortgage rates increasing, they are nowhere near the average credit card rates.
The money from your home’s equity can also be used for home improvements and repairs that could reduce heating and cooling bills in the long run.
Most cash-out refinance lenders require a minimum credit score of 620, so it’s important to know and monitor your creditworthiness.
2. Refinance with a Nonoccupying Co-Client
Refinancing with bad credit can make your application less desirable to lenders. Having a strong nonoccupying co-client can help ensure your refinancing application gets the best rates and terms available.
A co-client (or co-signer) is anyone willing to vouch for you and is in a good financial situation with great credit. A lender will review your and your co-signer’s credit score, income and assets. This is often a parent, another family member or a close friend.
There is a risk to your co-signer, so be sure you can keep up with your mortgage payments. If you fall behind on payments, the bank will come after your nonoccupying co-client for the money, as they have agreed to take on that responsibility as a co-signer. This can make for an awkward future relationship between you and your family member or friend.
3. Get an FHA Streamline Refinance
Borrowers who have an FHA loan may qualify for an FHA Streamline Refinance. This process is relatively fast and easy if you meet the guidelines and requirements. For example, you must already have an FHA loan on which you’ve been making on-time payments for six full months and net a tangible benefit.
“This will help dramatically because some lenders do not look at the credit score when doing these streamlined refinance loans,” Letson says.
FHA guidelines require that you get a lower interest rate or lower monthly payment for your net tangible benefit. If your objective was to reduce the loan length, your payments cannot increase by more than $50, and you cannot extend your loan term for more than 12 years.
Candidates for an FHA Streamline Refinance may not need a home appraisal, as this type of refinancing is not based on the home’s value but on what is owed on the loan. Even if a home is worth less than the loan balance, this may still be a viable refinance option.
A noncredit-qualifying option is also possible. Minimal documentation is required if you meet FHA guidelines, which is how this type of mortgage refinancing can be done quickly and easily.
4. Opt for a VA Streamline Refinance
The VA streamline refinance program, or the Interest Rate Reduction Refinance Loan (IRRRL), is designed to make the refinancing process quicker and easier for veterans, active-duty service members and eligible spouses.
To refinance with bad credit through the VA Streamline Refinance program, you must meet certain eligibility requirements set by the Department of Veterans Affairs. These requirements typically include making on-time VA loan payments, demonstrating a timely mortgage payment history, and proving that the refinance will result in a lower interest rate or monthly payment.
Additionally, a key advantage of the VA streamline refinance program is that it does not require a credit check or income verification, making it more accessible to people with less-than-perfect credit.
Key Takeaways
- Refinancing with bad credit can be challenging but possible with the right strategies and approaches.
- Improving your credit score before refinancing can help you secure better loan terms and interest rates.
- Government-backed programs like FHA or VA loans can help refinance with bad credit.
- Working with a co-signer with a better credit score can improve your chances of qualifying for a refinancing loan.
Why You Should Trust Us
Benzinga has offered investment and mortgage advice to more than one million people. Our experts include financial professionals and homeowners, such as Anthony O’Reilly, the writer of this piece. Anthony is a former journalist who has won awards for his New York City economy coverage. He has navigated tricky real estate markets in New York, Northern Virginia and North Carolina.
For this story, we worked with Reed Letson, owner of Elevation Mortgage, a mortgage lender in Colorado and Florida.
Frequently Asked Questions
Can you refinance with a 500 credit score?
Refinancing a home mortgage with a 500 credit score is technically possible, but lenders might require you to have a co-signer to secure the loan. You might also be hit with higher interest rates and may be required to provide letters of explanation that outline why and how your credit got into a bad position.
What is the lowest my credit score can be to refinance?
Each lender has a different minimum credit score they’ll work with for refinancing. The lower your score, the less likely lenders are to work with you unless you have a co-signer or are willing to pay a higher interest rate.
Does FHA allow cash-out refinance?
Yes, the FHA allows cash-out refinancing as long as you meet certain qualifications, such as living in the house for at least 12 months, making on-time mortgage payments and having the home’s value be higher than your principal loan balance.
Sources
- Reed Letson, owner of Elevation Mortgage
About Anthony O'Reilly
Anthony O’Reilly is an updates editor for Benzinga. He’s won numerous journalism awards for his coverage of the New York City economy and Long Island school district budgets.