When you have poor credit it can feel impossible to get a mortgage, but there are actually still options – you just have to know where to look.
Getting a mortgage with poor credit is trickier than with good credit, but being realistic about your affordability will result in getting into a house you love. And with time, you can improve your credit score and refinance into a lower interest rate!
Interest rates will be higher the lower your credit score is. The “best mortgage rates” that you see advertised are only for people with amazing credit and high incomes. There’s no exact score where you go from super-low rates to super-high rates, but rather a sliding scale.
AAA lenders like banks like to see a credit score above 680, and can be very strict in their qualifications. Scores a little below that can still get the best rates at other lenders like credit unions if the rest of their application is good, but much below 680 and you’ll be looking at getting a mortgage with an alternative lender.
Don’t let the name mislead you – the lending is exactly the same. The only difference between an alternative lender and a bank is that the former are willing to lend money to riskier borrowers. Because borrowers with lower credit scores are a higher risk, alternative lenders charge a higher interest rate.
They may also want to see a higher down payment than a traditional lender would. The minimum down payment in Canada is 5%, but alternative lenders may ask for 15 – 20% down. With current home prices, that can be tricky to come up with.
You have to be realistic when looking for a mortgage with bad credit. There are three factors working against you – needing a higher down payment, having existing debt, and having a higher interest rate.
The first thing you have to do is get together a down payment large enough for the property you wish to buy. This is easier if you choose a cheaper property. Whether the property is cheaper because it’s farther away from the city centre or because it’s a condo instead of a detached house, the extra down payment required can be difficult to gather if you’re trying to purchase a $500,000 or $600,000 home.
Usually if you have a low credit score, it’s because you have had too much debt and started missing payments because you couldn’t afford to pay back them all. Any existing debts will make it harder to qualify for a mortgage because of something called the Total Debt Service ratio.
TDS is a measure used by lenders to determine if you have enough money to pay for all of your debts and the house you want to buy. Lenders like to see this number at 42% or under. That means that no more than 42% of your income should go to the following categories:
The more debt you have, the less money you’ll have to pay your mortgage and heating. If you make $60,000, you should be spending no more than $2,100 on your debts and housing combined.
Let’s assume you have the following debts
|Credit card payments||$180/month|
With $680/month in debt costs, you could spend no more than $1,420 on your mortgage, taxes, and heating put together. That severely limits your options.
However, if you didn’t have that credit card payment, you could spend $1,600 on those costs. Get rid of your student loan and you can spend up to $1,800.
Getting out of debt should be one of your major priorities. It opens the door for future opportunities and saves you money in interest costs.
Higher scores means lower rates, so you’ll want to bring it back up to get access to the best mortgage rates in Canada.
You probably have many monthly payments all due on different dates. It can be easy for one of those payments – especially if it’s one of many credit cards – to be missed, adding a huge black mark back onto your report.
Missing payments is one of the worst things you can do for your score. Luckily, we live in the age of technology which can make it so you never piss a payment again. Many banks will allow you to schedule regular bill payments, either on a specific date every month or a time frame like every two weeks. The more bills you have set to autopay, the less you have to worry about making all your payments on time – your bank will do it for you.
When setting up your autopay, remember to keep enough money in your chequing account to cover all those bills. If you don’t, you’ll run into one of two problems:
Autopay can be very convenient, but if you never check your balances you can still miss a payment.
If you have any outstanding debts, especially high-interest debts, you should start paying those down as well. The sooner you get out of debt, the more money you’ll save. You’ll spend less in interest and increase your monthly cash flow.
If your score is particularly low or even non-existant, you’ll have few options for getting credit products to rebuild your credit in the first place. The best bet if your score is too low to get normal credit cards is to get a secured credit card. Be sure that it’s a secured credit card and not a pre-paid credit card – although they may seem similar at first, a pre-paid credit card will not improve your score.
A secured credit card requires a down payment to apply, but approvals are almost always guaranteed. Your credit limit is usually equal to the amount of money you put down, and you use it like a normal credit card. Your deposit will not be used to pay the balance unless you become severely delinquent on your payments. Instead, you pay it off like a normal card – complete with interest payments if you carry a balance. With a few months to a year of regular, on-time payments, your score may improve enough for you to graduate to an unsecured credit card. When you cancel a secured card, you get your deposit back.