Property owners can convert the equity in their homes that isn’t encumbered into cash by taking out home equity loans. A home equity loan is also more likely than a revolving line of credit or a standard loan to be granted by a lender if you have poor credit, and it will likely have a cheaper interest rate as well. The explanation is that if your home is used as collateral for the loan, a lender will view you as somewhat less of financial risk.
Typically, lenders will lend upwards of 80% of the equity that you have in your property. You will be a more desirable candidate if you have more equity, particularly if you already own 20% (or more) of the property free and clear. This might be especially useful if your credit score is low. Here, we look more closely at how to obtain a home equity loan even with fair to poor credit.
Negative Aspects of a Home Equity Loan
If you have poor credit, a home equity loan may be helpful, but there are some significant drawbacks to be aware of. For instance, you can anticipate less benevolent conditions on the home equity financing than you would if your credit were stronger. You might only be eligible for a smaller loan amount or be required to put up additional collateral. Over the course of the loan, you can also be required to pay a larger interest rate.
A home equity loan increases your overall mortgage debt on your property, which could place you in a precarious situation if you suddenly lose your job or encounter unforeseen expenses that make it hard for you to keep up with your payments. Additionally, you can be punished with sizable late-payment penalties that your lender would record to credit bureaus, further damaging your score. The largest drawback is that if you can’t pay the mortgage, the lender may eventually foreclose on your home, depriving you of a home to live in.
There are a few alternatives to utilizing your home equity as a means of collateral for a loan that you may take into account in light of these significant negatives. You may be able to obtain a variety of emergency loan choices even if your credit is less than ideal to assist you in withstanding a financial disaster without endangering your house.
HELOCs versus Home Equity Loans
For financing using home equity, there are two basic choices. With home equity loans, you can borrow a lump sum of money then pay it back over a period of 10 to 30 years in consistent installments, often at a fixed interest rate.
The second form is a home equity line of credit (HELOC), where the lender reserves a sum of money that you can draw from on an as-needed basis. Most HELOCs include a five- to ten-year “draw” period through which you can access the cash and offer interest-only payments with adjustable interest rates.
Actions to Take Before Applying
Before submitting an application for any kind of home equity lending, you must follow these steps.
Review Your Credit Report
To better understand your situation, obtain a copy of your credit report. Each one of the three main national credit agencies (TransUnion, Equifax, and Experian) is required by law to provide you with a free one annually on their respective official websites. To ensure there are no mistakes harming your score, carefully review the report (doing this annually is a good idea).
Get Your Finances in Order
To prepare for presenting your financial information to lending institutions, gather it, including evidence of your income and investments. Particularly if you have low credit, they’ll want to see that you can maintain the loan. If at all possible, settle any debt that might have a negative impact on your application. If financing can wait, you may wish to take advantage of the opportunity to raise your credit rating.
Think About How Much Money You Need
Ask yourself, What is the objective of this loan? And how much cash will I need for that? It can be enticing to aim high and get the biggest loan possible, possibly to have a safety net in case something goes wrong financially. But you should do this only if you are certain that you can avoid squandering it all. If your spending is under control, it could be a good idea to “borrow up,” and having a HELOC limits your interest payments to the funds you actually withdraw.
However, if you take out a home equity loan, you’ll be responsible for paying the entire amount in interest and principal, so it makes sense to take out only what you need.
Interest Rate Comparison
It makes sense to request home equity finance directly from your current lender. Since you’re already a customer, that lender might present a more enticing rate. However, if you have low credit, there are no guaranteed home equity loans, so it’s a good idea to shop around. You’ll be in a stronger position to bargain for the lowest price if you get several quotations. See whether another lending institution will match or beat your initial offer by presenting it to it.
Since they represent you and not the lender, an independent mortgage lender may also be of assistance.
Remember the Additional Costs
Don’t just compare loan offers based on their interest rates. Ask about any additional charges, such as those for closing costs and loan processing. This will allow you to evaluate loans fairly and prevent any unexpected expenses from blowing your budget.
Find a Cosigner
It might be a smart idea to enlist the help of a cosigner, who utilizes their income and credit history as a guarantee for the loan, to improve their ability to borrow. To increase your probability of getting approved, pick a cosigner with excellent credit, stable employment, and a sizable income. Of course, they should be informed of the dangers involved in serving as your cosigner if you are not able to repay the debt.
Consider Subprime Loans
As a last resort, you can approach lenders who provide subprime loans. These are simpler to qualify for and catered to consumers with bad credit who don’t fit the criteria for conventional lending.
Lower loan amounts and much higher interest rates are often available from subprime lenders. But if at all feasible, you should stay away from these loans, especially if your credit is already in bad shape.
Ask your lender what they need from you (including your credit report) if you find that your lack of credit history is hurting your chances. Turning back your credit score is never too late. If at all possible, think about delaying your borrowing plans while you work to raise your credit score.
Mortgage lenders frequently consider things like your payment history, current debt load, and the length of time you’ve had credit accounts. Do you routinely owe large sums of money, miss payments, or open additional accounts? Even one of these habits can be changed to improve your credit score and ease future borrowing.