Bad credit can feel like the end of your ability to borrow, especially if you are trying to secure a home loan. However, there are options available for borrowers with bad credit to fund the purchase of their dream home.
One of those options is the VA home loan. Luckily, securing a VA loan with bad credit is not impossible. Let’s dive into the details of securing your VA home loan with bad credit.
What is a VA Loan?
First of all, let’s talk about the details of a VA home loan. Veterans Affairs home loans are more commonly known as VA home loans. These types of home loans are an offered benefit to both veterans and current service members.
The Department of Veterans Affairs works to make qualifying for financing easier for veterans. Additionally, the VA loan offers other benefits such as a no down payment option which can come in handy. If you’ve had trouble saving up a hefty down payment, then that benefit will come as a relief.
Although the Department of Veterans Affairs makes these home loans possible, the agency itself does not issue the loan. Private lenders issue the loan to the borrower but the loan is guaranteed by the Department of Veterans Affairs. Based on this guarantee, the loans do not carry private mortgage insurance that is typically required without a down payment of 20%.
All of these benefits can add up to a great deal for veterans looking to purchase a home. Even if you have bad credit, it is possible to take advantage of the benefits that a VA loan has to offer.
Who is eligible for a VA loan?
Before you apply for a VA home loan, you’ll need to obtain a Certificate of Eligibility. With this, you’ll be able to prove to your lender that you are in fact able to obtain a VA home loan.
Luckily, the process is not very complicated and almost every member, or veteran, of the military is eligible. Additionally, members and veterans of the reserve and National Guard are usually eligible. Finally, spouses of military members that died on active duty or from a service-related injury may be eligible for the VA loan.
If you are an active-duty military member, then you will need to serve approximately 6 months before you are eligible.
Keep in mind, you will need to use this home as your primary residence and move into the new home within 60 days of purchase. Sometimes exceptions are made to this general rule, but it will require a case by case evaluation. If you do not plan on using this home as your primary residence, then the VA home loan is not a good option.
What are the credit requirements for a VA loan?
The Department of Veterans Affairs does not require a minimum credit score for VA loan borrowers. As far as the VA is concerned, the most important requirement is the certificate of eligibility. Other than that, the VA requires that borrowers have made on-time payments for the past 12 months. The VA also prefers that borrowers have not declared bankruptcy in at least two years.
However, private lenders are the entity underwriting the loan, not the VA. VA home loan lenders are usually willing to work with credit scores much lower than the traditional mid 700s requirements.
Still, most lenders prefer applicants with a credit score of at least 620 for VA home loans. A 620 credit score is much lower than most lenders will accept without the VA guarantee to back the loan.
Don’t be discouraged if you have a lower credit score. Applications are evaluated on a case by case basis and there are other compensating factors considered. In some cases, a lender may be willing to work with you even if your credit score is below 620. Here are the other factors that VA lenders look at:
- Debt to income ratio. If you have a high debt burden, then lenders are less willing to work with you. Generally, VA borrowers should have a debt to income ratio of less than 41%. If you have a low debt burden then your application will be stronger.
- Free cash flow. The VA suggests to lenders that the monthly free cash flow of applicants is evaluated. Your free cash flow is based on your income minus all monthly obligations which might include childcare, taxes, insurance, and more.
- Job history. The stability of your current job may come into play. If you’ve had a stable high paying job for over 2 years, that can help to strengthen your application.
- Evidence of credit improvement. Even if you have poor credit, the lender may consider you an acceptable credit risk if you have been making payments on time for the past 12 months. Plus, if you are working on a Consumer Credit Counseling plan that can improve your application.
- Past bankruptcies. If you have declared bankruptcy recently, that will negatively affect your application. Generally, the bankruptcy will prevent you from obtaining a VA loan for at least 1 to 2 years.
A final thing to note about the VA loan is the funding fee. Most VA home loans carry a funding fee between 2 and 3.5% of the total loan. Generally, this fee is bundled into the loan but some lenders may require it upfront. It can be an added expense on an already expensive home purchase process. Make sure to factor this in before you accept the terms of your loan.
VA loan choices
If you already have a home loan but are intrigued by the benefits of the VA home loan, don’t worry! You may have the opportunity to refinance an existing home loan into a new VA home loan.
If you are seeking a lower interest rate, then the Interest Rate Reduction Loan (IRRRL) might be a good option. Sometimes lenders refer to this loan option as a VA Streamline Refinance loan. The refinancing process through the VA is extremely straightforward. Plus, it is possible to complete the entire process without any out of pocket fees.
If you are seeking to take cash out of your home’s equity, then a cash-out refinance loan through the VA may be a good option. You can use the cash to pay for home improvements and other obligations.
Both types of VA refinance options could help you reach your financial goals. Like the standard VA home loan, lenders may be willing to work with you even if your credit is less than ideal.
Other options for home loans with bad credit
The VA home loan is not your only option if you have bad credit. Luckily, there are other programs on the market that you may be able to work with if you have bad credit. It is a good idea to check out all of your options. As you are looking, keep interest rates and down payment requirements in mind. You never know which will be the best option until you take a closer look.
With a minimum credit score requirement of 500, FHA loans are a good option for those with bad credit. If you have a credit score above 580, then you may even be able to qualify for a reduced down payment.
FHA loans are backed by the Federal Housing Administration. First-time homebuyers with bad credit are encouraged to use this program to secure their first home purchase. VA loans have more benefits associated with them, but FHA loans are still worthwhile.
USDA loans can also be a good option if you have less than ideal credit. The catch is that you must be willing to live in a rural area.
Typically, you’ll need to have a 640 credit score to have your application approved. However, it is not a hard cut off. If you are planning to live in a rural area, then you might qualify for these U.S. Department of Agriculture backed home loans.
Start your search
When you are ready to start looking through your mortgage options, it is important to get quotes from multiple lenders. Remember, even the smallest reduction in your interest rate can save you thousands of dollars over the course of your loan.
Here are a few places to get started:
Rocket Mortgage by Quicken Loans
Rocket Mortgage has been working with customers to provide a home buying experience with minimal human interaction. They provide a wide range of home loans and allow you to compare your options easily.
LendingTree is not a home loan lender, but the company can connect you to countless lenders across the country. They’ll match you to your options based on your credit score, debt-to-income ratio, and more. It is a great resource to find several lender options within just a few minutes. If you want to compare many of your options easily, then LendingTree is a great place to start.
Navy Federal Credit Union
Navy Federal Credit Union works to provide a great banking experience to service members of any branch. Naturally, the credit union works with veterans to secure VA home loans on a regular basis.
New American Funding
New American Funding may be the best option for veterans with poor credit. The company works with customers to individually review each loan application and the entire underwriting process.
It may take longer to close if you are working with a human underwriter. However, if you have poor credit then the reviewer may be able to stay flexible and push for an approved application.
Can’t Find a Lender?
If you cannot find a lender that is willing to work with you, then you may have to accept that your credit needs improvement. Luckily, there are many ways that you can work to improve your credit score.
Start by checking over your credit report for mistakes. If you find an error, then make sure to have it removed from your credit report. Next, make an effort to pay all of your bills on time. Timely payments can significantly improve your credit score.
Finally, start paying down your debts. Not only will this help improve your credit score but also can bring some relief to your heavy load.
As your credit score starts to improve, your approval odds will continue to increase. When the time is right, apply again!
Owning your home can be a milestone of American success. When you have a place to put down roots and grow into your community, it can be a wonderful feeling.
It is especially important for veterans to achieve this milestone. After their sacrifices made in service to our country, it is amazing to see them come home and build their lives. Take action today and start looking for a lender to fund your VA home loan.