How to Fix Your Credit to Buy a Home

Want to learn how to fix your credit to buy a home?

Buying a home can be a huge accomplishment and one that provides a secure financial future. However, if you have bad credit, it can feel overwhelming or impossible to think you could ever purchase a home. 

While there a plenty of loan programs available for people with bad credit, it’s undeniable that improving your credit can go a long way in getting you qualified.  That’s why I am going to teach you how to fix your credit to buy a home… fast!

What Credit Issues Do You Need to Fix?

Before we can understand how to fix your credit to buy a home you need to know what type of issues you have.  While you probably have a good idea of what’s going on with your credit it’s best to know for sure. 

I recommend doing one of the two things depending on your budget. 

•  Get your free credit report from annualcreditreport.com
• Get your credit report plus scores from myfico.com

While sites like Credit Karma and others can help you see things about your credit, they don’t cover all three credit bureaus and the scores they provide aren’t the same scores lenders use. 

Myfico.com is the only company available where you can see all three of your mortgage scores, and it costs about $40 per month.  It also has credit simulators and alerts which are helpful as your begin to work on your credit. 

Past Due Accounts

Past due accounts are any accounts that are currently behind, but not charged-off or in collections.  These or accounts where you have been missing payments are are currently past due. 

If you have a late payment, and you don’t have a history of making late payments, it can drop your credit score by as much as 100 points depending on the delinquency. 

The credit bureau has 4 different late payment categories based on how late your payment is: 

• 30 Days Late
• 60 Days Late
• 90 Days Late
• 120 Days Late

Each of these payment statuses hurts your credit score more and more.  Once you get to the 90-120 mark, the lender will begin the process of charging off your debt and selling it to a collection agency. 

Related: What’s The Minimum Credit Score to Buy a Home?

You Must Bring Accounts Current

If you have any accounts that are currently late, you’ll need to bring those current in order to qualify for a mortgage.  The good news is that once you bring the account current, your credit score can slowly go up over time, as you make regular on-time payments. 

If you continue to have late payments, then it’s going to be very difficult for you to see any increases in your credit score.  Your payment history makes up the largest portion of your credit score at 35%. 

If you have multiple items that are past due tackle them smallest to largest. This will allow you t to build some momentum in getting things caught up and to increase what you can spend as you catch up on each loan. 

Maxed Out Credit Cards

The next largest factor in your credits score is your balances or utilization on your credit cards.  When you get a credit card each card has a limit and the amount of the card you use up to and over the limit has a huge impact on your credit score. 

If you have credit cards where the balance is over 30% of the credit limit, your credit score is suffering. We’ve seen clients pay down credit cards and have their credit scores go up by as much as 100 points. ‘

The credit bureaus look at your utilization in two different ways: 

• Individual Utilization

• Total Utilization

Let’s say that you have 3 different credit cards. 

1. Credit card with a $300 limit

2. Credit card with a $500 limit

3. Credit Card with a $2000 limit

This would mean that your total credit limit is $2800. The credit bureaus are going to base your score on how much of the $2800 in total credit limit you have used as well as each individual limit used on your three cards. 

Card 1 has $250 of $300 limit = 83% of the limit

Card 2 has $300 of $500 limit = 60% of the limit 

Card 3 has $1800 of $2000 limit = 90% of the limit

So each of these cards is well over 30% of their limits, so they are negatively impacting your score. Also overall you are using $2350 of your $2800 limit which is 83% of your total credit limit. 

The best thing to do is begin to pay off each card smallest to largest, so you can begin to see your scores increase.  The ideal percentage to shoot for is under 10% for each card and this will allow you to see the biggest score increase. 

Collections

A collection account is an account that was owed but never paid. The original lender or provider then sells your debt to a collection agency. The collection agency buys your debt for a fraction of the cost and then attempts to collect the full amount. 

If you have collection accounts you probably know how they negatively affect your credit score. 

Getting a Mortgage With Collection Accounts 

It is possible to purchase a home if you have a collection account but it’s going to depend on which loan program you use. 

Conventional Loans 

If you need or want to use a conventional loan, you’ll need to pay off your non-medical collection accounts most of the time in order to qualify. Conventional loans will not usually issue an automated approval with collections and most lenders will not do a manually underwritten conventional loan. 

Most homebuyers with open and unpaid collection accounts will look into one of the government-backed loan programs. 

Government Loans 

A government loan is one of the three loan programs backed by the government: 

• FHA
• USDA Rural Development
• VA

Related: Can You Buy a Home With Bad Credit?

These loan programs are more flexible than conventional loans and don’t usually require you to pay off your collections in order to qualify. 

The way these loans will handle collection accounts is by having you count the collections as part of your monthly payment which will affect your debt-to-income ratio. 

Non-Medical Collections are the only type of collection accounts required to be added into your DTI, and only if the sum of your collection accounts is more than $2,000. 

If you have more than $2,000 in non-medical collection accounts the lender is going to use 5% of the balance as a monthly payment added into your monthly liabilities. 

So if you had $8,000 in non-medical collection accounts, you’d have to add $400 a month into your monthly debt payments. This monthly amount can affect your purchasing power because it will raise your overall debt-to-income ratio. 

One major exception to this is government debt. If you have student loans, child support, or any other type of collection account where the government is involved, you must pay them off before you can buy a home. 

The good news is that there is usually a process to remove such debts from collections. You can set up a payment plan to have student loans and child support for instance, and pull them out of collections. 

You’ll need to make 3 monthly payments before you can proceed with the home buying process. 

Should I Pay Collection Account? 

No, most of the time paying your collection accounts will not help you and in fact, it can hurt your credit score.  When you make a payment on a collection account, it refreshes a metric on your credit report called the date of last activity. 

When the date of the last activity updates, it will often drop your credit score significantly. This is why advise most of our clients to avoid paying off a collection account if they want to buy a home in the next 12 months. 

Pay for Deletion

The only time we recommend paying off a collection account is if it will be deleted. Pay for deletion is an agreement between you and the lender or collection agency that if you pay whatever amount is agreed upon, they will delete it from the credit bureau. 

It’s important to get this document in writing because without it, they don’t have to follow through and you don’t have any recourse if they choose not to delete it. 

It’s important to know that also this isn’t easy to obtain as it requires negotiation and often times persistence. 

Medical Collections

If you have a medical collection, however, they are required now by law to remove them from your report once they are paid. For this reason, if you had medical collection you can pay them off. However, if you have other collections on your credit report, paying off a medical collection may not make a huge difference unless it was put on your credit report in the last 12 months. 

Repossession 

Repossession is when the lender comes and repossess an asset you financed with them due to not making payments on it. We most commonly see repossession with an auto loan. 

A repossession is treated the same as a collection account. If you have a repossession and it’s not listed as charged-off, it can be difficult to purchase a home. 

This is because repossessions usually have fairly large balances, and counting 5% of those balances can make your debt-to-income ratio too high. 

However, if the repossession is listed as charged-off, then your lender is not required to count the debt against you. 

If you have a repossession you’ll need to see how much you actually owe, since the asset was most likely sold after it was repossessed. 

Bankruptcy 

Filing for bankruptcy is a major decision and can crush your credit when you file. However, you can still purchase a home even if you’ve had to file bankruptcy. 

With bankruptcy, there are different waiting period based on the loan program and type of bankruptcy you filed. 

Chapter 7: If you’ve filed a chapter 7 bankruptcy, you’ll need to wait 2 years at the earliest from the discharge date before you can purchase a home. 

Chapter 13: With a Chapter 13 Bankruptcy you can purchase a home once you’ve made 12 months of on-time payment and approval from your trustee. 

The most important thing when it comes to buying a home after bankruptcy is re-establishing your credit. 

Building positive payment history and showing that you can be responsible with credit is the key to rebuilding your credit and being approved for a home loan. 

Rebuilding Credit After Bankruptcy: 

1. Get a credit card

You may need to apply for a secured credit card in order to get approved, but getting a credit card is a big part of rebuilding your score after bankruptcy.  

Credit Card Tips 

• Never carry a balance on all cards, and only a $5-$10 balance on one card
• Always pay on time or before the due date
• Only charge what you can pay back right away 
• Don’t apply for too many cards at once
• Wait 6-12 months before applying for new credit

2. Get a Loan 

In addition to getting a credit card, you’ll also need an installment loan to pay back. This could be an auto loan or a secured loan.  The key is to have both a credit card and an installment loan on your report and to begin building positive payment history again. 

How to Fix Your Credit Fast

1. Set a budget: write down all expenses and income
2. Get all past due payments up to date
3. Pay down credit card balances to under 10% of your limit. 
4. Get student loans, past-due child support, and other government debt out of collections
5. Build positive payment history by opening new credit or paying existing credit on time
6. Stop applying for new credit frequently 

Should You Consider Credit Repair? 

Many people consider credit repair when they begin their journey to credit improvement. Credit repair can be helpful in assisting you in fixing bad credit but you shouldn’t start there. 

Credit repair isn’t free so when you sign up for the service, it will take money out of your budget that can be used to pay off debts and build your credit. 

How does a credit repair company fix your credit

Credit repair companies look for data inconsistencies across your three different credit bureaus and then dispute the information as inaccurate. The credit bureaus then have a certain period of time to update the information or remove it. 

This is the bulk of what credit repair companies do. They can also assist with other services such as : 

• Pay for deletions to remove collections
• Goodwill letters to remove late payments 
• Negotiate with creditors

These services can be useful, and help you improve your credit. However, it’s important to know that no credit company can promise results. Yet despite this fact, almost all of them do. 

When you pay for credit repair, you are paying for knowledge of fair credit laws and persistence. 

Start with the Basics First

We recommend starting with the things we’ve mentioned here first. You can always bring in a credit repair company later. Before you shell out money each month for someone else to work on your credit, do the things you can control first. 

• Get past-due loans caught up 
• Pay down credit cards
• Open secured cards or loans 
• Pay off medical collections
• Pay your bills on time

Doing these things first will have the most guaranteed impact, and will also be the most expensive. They are also the first things a credit repair company is going to recommend you do. So save your money and do these things first. 

Once you have completed the basic and most essential items, then consider bringing in a credit repair company to remove inconsistencies, collection accounts, or anything else you want to address.

Should You Consider Bankruptcy? 

First, let me say clearly that I am not an attorney. This is not legal advice.  However millions of people file bankruptcy each year, so it’s a viable option for some. 

Filing bankruptcy really comes down to can you pay your bills? In order to determine this, you must set a budget first. 

• Add up monthly debt payments
• Add up all living expenses
• Add up housing expenses 
• Add your monthly take-home income 

Now, subtract your monthly debts from your monthly income, what’s left? If you don’t have anything left or not enough to live on like gas, food, etc, then it may be time to consider bankruptcy. 

If you don’t have the ability to increase your income or reduce your expenses drastically bankruptcy could be an option.  

The Top 5 Reasons People File Bankruptcy: 

1. Medical Bills
2. Job Loss
3. Poor or Excess Use of Credit 
4. Divorce or Separation
5. Unexpected Expenses

If you find yourself in a position where you feel hopeless, can’t make your minimum payments, or have debts so large you can’t pay them, it might be time to speak with a bankruptcy attorney.

Hopefully, this guide on repairing your credit will help you narrow down what you need to do next. Start with the basics, do it yourself, and let us know about any questions you may have.