Bad Credit Home Loans Getting Tougher to Qualify For

Borrowers with bad credit - such as a bankruptcy or a delinquent loan on their record - have found it relatively easy to get a bad credit mortgage in recent years, thanks to relaxed standards throughout the industry.

But now, the Dallas Morning News reports, the lending industry is dealing with the fallout of its creativity as mortgage rates and foreclosures rise.

Some mortgage companies have gone under, and for would-be buyers with poor credit records, buying a house has become more difficult and costly.

“It’s tightening up a lot,” said Eddie Carmona, a local mortgage broker that deals regularly with bad credit (or subprime) applicants. “Almost every single subprime lender has done dramatic changes. It’s all recent.”

Another mortgage broker said that more strict down payment requirements recently priced one of his credit-challenged clients out of a purchase.

“The loan program was going to allow for 5 percent down, and they just came down with new guidelines to require 10 percent down,” said Gary Akright of Dominion Mortgage Corp. “It took him out of being able to purchase.”

Other changes include:

• Higher credit scores. Previously, borrowers with a FICO credit score as low as 570 (out of 850) could qualify for a single home loan, with financing of 100 percent of their home purchase. Now it’s jumped up to a 600 FICO score for an 80/20 loan, in which a second mortgage loan has to be taken out to finance the remaining 20 percent.

• Rising interest rates. Rates on bad credit mortgages have risen about a full percentage point since September, while regular mortgage rates have been relatively steady.

• More stringent savings requirements. “They want to see borrowers have at least three months of reserves in their account in case of an emergency. They want to see it in your bank account for at least 60 days. Usually, subprime lenders didn’t ask for that,” Carmona said.

During the housing market boom, borrowers and lenders took great comfort in the fact that home prices rose with no signs of slowing. Even if a borrower had an interest-only mortgage, the rising value of the property would build equity for the owner.

But with home prices falling in many parts of the country, that safety net has been taken out from underneath consumers. As rates rise, borrowers with adjustable-rate mortgages are facing higher monthly payments and, in turn, foreclosure.

Mortgage delinquencies in the third quarter increased across all types of loans, according to the Mortgage Bankers Association. Unfortunately, some lenders who made those risky loans were driven by their own self-interest, Carmona said.

“I believe some loan officers are much more concerned with producing than with the client’s best interest. There is a big difference between the ability to qualify and the ability to afford, and there are borrowers and mortgage loan officers who ignore that simple truth,” he said.

In many cases, a loan officer didn’t have to worry too much about carrying riskier home mortgage loans, because they could quickly package and sell the mortgages as bonds in the financial markets.

Federal banking regulators have also issued guidelines to banks within the last year on non-traditional mortgages. Some lenders are motivated by what they see happening in their own industry: Bad loans, tougher competition and declining profitability have pushed more than a few out of business.

What does all this mean for consumers?

If you’re planning to buy a house, you need to start out the old-fashioned way: by saving money for a down payment and building a strong credit history.

Once you have the loan, it’s imperative to budget for maintenance expense, taxes, and general upkeep. Before you get a loan, consider the total cost of homeownership and the total cost of selling a home, and make sure you find a mortgage company who won’t try to sell you what you can’t afford.