Your credit score is an essential financial metric. Lenders and financial institutions use your credit score to determine your creditworthiness. Even cellular providers may use your credit score to check if you’re eligible for financing.
Having a good credit score or credit history can help in many situations. Especially when trying to take out a loan, such as a home equity loan. A home equity loan is a type of loan that lets you use the equity (value) you have in your home as collateral to borrow money. While it is harder to get a home equity loan if you have a bad credit score, it is possible. Learn more below.
- What is a home equity loan?
- Can you get a home equity loan with bad credit?
- Requirements for home equity loans
- How to apply for a home equity loan with bad credit
- Pros and cons of a home equity loan
- Alternatives to bad credit home equity loans
- Home equity loans and bad credit scores: FAQs
- Getting a loan with bad credit is possible
What is a home equity loan?
A home equity loan lets you use the equity you have in your home as collateral to borrow money. Home equity loans are sometimes called second mortgages because you now have to make another loan payment along with your mortgage. When you take out an installment loan like a home equity loan, there is a fixed amount that you must pay every month until the loan is completely repaid. Home equity loans often can be paid off over several years.
Home equity loans are not the same as a home equity line of credit (HELOC). The difference is, a home equity loan gives borrowers a lump sum of money with a fixed interest rate. A HELOC provides cash access when you need it, as a line of credit similar to a credit card, but it sometimes has a variable interest rate. That means it can change at any time.
Because a home equity loan offers a fixed rate, it may be a better choice than a HELOC if you need a certain amount of money to cover an expense or pay off debt.
Can you get a home equity loan with bad credit?
Yes, you can. However, it is more challenging than if you have good credit.
When lenders extend loans to customers, they want to know that the borrower will pay back the loan on time. Having a good credit history shows that a borrower is reliable. A bad credit history or credit score may scare lenders away. So, what is considered “bad credit”?
Many lenders use FICO credit scores to see whether a borrower has good or bad credit. Your FICO credit score is based on how you manage credit. This includes payment history and applications for credit. According to Bankrate, a FICO credit score below 580 equals a poor credit rating. You can still get a home equity loan with poor credit, but it will be more difficult.
| FICO Credit Score | Credit Rating |
| 800-850 | Exceptional |
| 740-799 | Very Good |
| 670-739 | Good |
| 580-669 | Fair |
| 300-579 | Poor |
Requirements for home equity loans
Lenders sometimes have different requirements for borrowers looking to take out a home equity loan. At times, these requirements may be difficult to reach if you have bad credit. Standard borrowing criteria you must meet to qualify for a home equity loan includes:
- A 620 credit score or higher. A good credit score shows lenders that you’ve been responsible with credit cards and loans, which is a good indicator that you’ll repay your loan on time.
- Loan-to-value (LTV) ratio that doesn’t exceed 80%. This means you have at least 20% equity in your home.
- Consistent and timely mortgage payments. Like your credit score, a history of consistent mortgage payments shows lenders that you’re responsible when it comes to making on-time loan payments.
- Low debt-to-income ratio of 43% or less. This means that no more than 43% of the money you earn goes toward paying off debts.
- Proof of stable employment and income. Lenders want to see that you have a stable job and ensure your financial budget allows you to make on-time payments.
How to apply for a home equity loan with bad credit
The best way to successfully apply for a home equity loan with bad credit is to build your credit history. This will make it easier for you to qualify for future loans. In the meantime, here’s how you can apply for a home equity loan.
Review your credit report
Before you apply, review your credit report to see where you can improve your credit score. You can get a free annual credit report here. Doing so will also let you check for suspicious activity happening with your credit–such as credit cards or accounts that you don’t recognize.
A few quick tips on how to improve your credit score:
- Keep at least one credit card open and active. Make your minimum monthly payments on time.
- Do not open new credit cards unless it’s necessary. Opening new credit cards lowers the average age of your accounts and triggers hard inquiries on your credit report.
- Keep your credit utilization ratio at 30% or below. Your credit utilization ratio is how much you owe on all your accounts, such as credit cards, compared with your total available credit. This is one of the most important parts of your credit score.
Calculate your debt-to-income ratio
Your debt-to-income (DTI) ratio is very important. It’s the main way lenders can decide whether a borrower is reliable enough to pay off their loan. You can calculate your DTI ratio by adding all your monthly bills, loans, and credit card/debt payments. Then divide that number by your gross monthly income. Multiply that number by 100 to figure out your debt-to-income ratio.
Example: You have $1,000 in debt payments each month. You earn $4,000 per month. $1,000 divided by $4,000 = 0.25. Then, 0.25 x 100 = 25% DTI ratio.
When you apply for a loan, the lender wants to see a debt-to-income ratio of 43% or lower to consider your loan application. The lower your debt-to-income ratio, the better your chances are of being approved for a home equity loan.
Figure out how much equity you have
To figure out how much you can take out in a home equity loan, you need to know what your home is worth. The best way to figure that out is with a professional appraisal, or a professional opinion of a home’s value.
However, keep in mind that the average cost to have a home appraised is between $300 and $500. The value is determined through an in-person inspection and the recent sales of similar homes in your area. Also considered are the size, condition, floor plan, and features of your home.
Consider a co-signer
If your credit isn’t good, having someone with better credit–like a friend or family member–co-sign the loan can help you get approved. You should know, however, that if you don’t pay back the loan on time, both your credit score and the co-signer’s credit score can be damaged.
Assess different lenders for the best rates
Finding low interest rates on a loan when you have bad credit isn’t easy. So, you should research different lenders and shop around for the lowest rates. Read the fine print to make sure there are no hidden fees or requirements you can’t meet.
Write a letter of explanation
If you’re having trouble getting approved for a home equity loan with poor credit, you can write a letter of explanation. In your letter of explanation, you can explain discrepancies on your credit report, clarify your income sources, and verify the dates of any bankruptcies or foreclosures.
Be sure to provide a clear explanation for any issue you mention.
Pros and cons of a home equity loan
Getting a home equity loan with bad credit can definitely be a good thing. But there are also some downsides to it.
Pros of a home equity loan
- You’ll have a better chance of qualifying: A home equity loan is a secured loan, meaning that your home is used as collateral. Because the lender is protected by this collateral, borrowers with bad credit often get approval for a home equity loan.
- The loan is flexible: This type of loan can be used to pay off pretty much everything–from unexpected medical expenses or home improvement bills, college tuition, and other debts.
- Better interest rates: Because this is a secured loan with your home being used as collateral, the lender can offer lower interest rates than other types of loans.
- You know what to pay and by when: Home equity loans are fixed-rate loans. This means your monthly payments will remain the same throughout the loan. And you’ll know when the loan needs to be paid off by.
Cons of a home equity loan
- You could lose your home: If you don’t pay off your loan, the lender can legally take your home–since you used it as collateral–and sell it.
- Your home needs to have enough equity: Lenders often require that you have 80% equity in your home. If you don’t, you may not qualify for a home equity loan.
- The loan amount could be lower: The amount of money a lender offers depends on your credit score and how much equity is in your home. The worse your credit is, the lower the amount you might be able to borrow.
- There are fees: Since a home equity loan is basically a second mortgage, you will likely have to pay closing costs, appraisal costs, and other fees. This can add up to several hundred or even a few thousand dollars.
- Don’t take out more than you need: With large loans, it may be tempting to take out more money. Only take out what you need, so you won’t end up with larger monthly payments when you repay the loan.
Alternatives to bad credit home equity loans
Home equity loans aren’t the only loans you can get with a lower credit score. If you’re looking for an alternative to home equity loans, learn more about some of your options below:
Cash-out refinance loan
A cash-out refinance loan pays off your existing first mortgage. This is different from a home equity loan, which adds a “second mortgage.” This type of loan results in a new mortgage that may have different terms than your original mortgage. You’ll get a new monthly payment schedule to follow so you can pay off the loan on time. A cash-out refinance pays one lump sum of money. Much of that is used to pay off your existing mortgage. The rest of the money goes to you.
Personal loan
Instead of a home equity loan, you could take out an unsecured personal loan (if you qualify). An unsecured personal loan provides you with the money you need but doesn’t require you to put up any collateral. Sun Loan’s personal installment loans are perfect for people who need a loan but don’t have a great credit history, because we look at more than just a credit score.
Reverse mortgage
With a reverse mortgage, you can borrow money against the equity in your home. You don’t have to make monthly payments, but you’re responsible for repaying the amount you borrow when you no longer live in the home. You also have to keep up with property taxes, home insurance, and home repairs and maintenance.
Home Equity Line of Credit
A home equity line of credit (HELOC) is like a home equity loan—only you receive a line of credit. Lenders determine your spending limit based on your home’s value and how much equity you have, and your monthly payments vary based on current interest rates and how much you spend.
Home equity loans and poor credit scores: FAQs
Can you get a home equity loan with a 500 credit score?
You may be able to get a home equity loan with a 500 credit score, but it can be challenging. While your credit score is important in loan approvals, lenders look at many other factors when considering your loan application, including your mortgage payment history and income. You can also take steps to improve your credit score so it’s easier to get approved for a loan or consider a different type of loan.
How difficult is getting a home equity loan with a poor credit score?
Getting approved for a bad credit home equity loan depends on your other financial factors. If you earn enough money and have a history of paying your mortgage on time, we may be able to work with you. Contact us if you have questions about getting a home equity loan with bad credit.
How can I improve my chances of getting a home equity loan with bad credit?
If you’re having trouble getting a home equity loan with bad credit, improving your credit is the best solution. You can also make sure you’re providing accurate income statements and mortgage payment records. If you’re still having trouble, consider writing a letter of explanation to explain individual issues on your application.
Getting a loan with bad credit is possible
While it’s certainly easier to get a home equity loan with good credit, it is possible to get one with bad credit. Especially if you need it for emergency purposes. If not, a good approach is to gradually improve your credit score before you borrow money. This will make it easier to get a loan. And it can also help you qualify for better interest rates.
Sun Loan offers personal installment loans–even if you have bad credit. These loans are flexible so they can be used on different expenses. Plus, our personal installment loans are usually processed on the same day so you get your money quickly.
We also make sure your monthly payments are affordable. And by making those payments on time, you can build your credit! Apply online, come see us in one of our convenient local branches, or call us today at (800) SUN-LOAN to explore your options.
