Becoming a homeowner is a major life step that requires a lot of preparation. For example, you’ll need to save for a down payment, and most likely apply for a mortgage, in order to pay for your new home. Unfortunately, things can get a little complicated if your credit score is on the lower side.
If this is the case for you, don’t panic! There’s more than one way to go about buying a home, and there are things you can do to improve your credit score.
Before a bank issues you a mortgage, it will want to make sure that you can repay what you’ve borrowed and that it won’t be taking a risk by lending to you.
That’s why it’s so important to maintain a credit history that reflects your spending habits and shows that you’re able to meet your financial obligations on time.
Your credit history will also play a role in determining the mortgage rate and terms you are offered. The higher your credit score is, the easier it will be for you to obtain favourable mortgage terms from your lender. But if your score is on the lower side, you still have options.
Though your credit file contains a good deal of information about your personal and financial situation, in Canada, your lender will mostly be concerned about your credit score (which can range from 300 to 900).
Credit scores are affected by a number of different factors, such as your payment history, how you use your credit, your credit history, and the number of recent credit applications.
Most lenders will not issue loan for a mortgage if your credit score is below 600.
Essentially, a low credit score means the bank will view you as a higher-risk borrower, and it will be more cautious about lending money to you.
If your score is below 600, your chances of getting a good mortgage rate and favourable terms—or even getting a loan in the first place—go down. You’ll likely have to look for alternatives to traditional lenders to secure financing for your property.
There are a few different ways you can go about buying a home with a bad credit score. Before you do anything else, shop around for a traditional lender, since some have less stringent requirements than others. A mortgage broker can help you through this process.
If your credit score is less than stellar, but you can make a down payment of at least 20%, you could boost your chances of getting a mortgage from a traditional lender—and more favourable terms to boot.
A high down payment shows the bank that your financial situation is improving and that you present less of a risk as a borrower. Paying more up front could also lower your monthly payments or allow you to pay off your mortgage faster, since you’ll likely have to borrow less money and avoid the mortgage loan insurance for smaller down payments.
In Canada, if you don’t have a substantial down payment, or if you simply don’t qualify for a loan from a traditional lender due to your credit history, you could consider using a private lender. These lenders are usually more flexible in their requirements.
To compensate, they charge higher interest rates, ranging between 10% and 15%, and sometimes require a higher down payment. Generally, these mortgages have short terms, from 6 months to two years.
This option may be a good short-term solution—for example, if you want to improve your credit score so you can get a mortgage from a traditional lender.
If you’re thinking of buying a home a few years down the line, or if you’re willing to postpone your homebuying plans because you don’t qualify for a mortgage or don’t have a down payment ready, renting to own could be a viable solution.
With this option, you rent a home for a set period of time before purchasing. This allows you to “try before you buy” and gives you more time to improve your finances, your debt and your credit score.
Of course, this type of arrangement has its share of advantages and disadvantages for both the tenant and the owner. That’s why both parties need to make sure nothing is left to chance by determining the terms of the agreement in advance, such as the length of the lease, the rent, and the purchase price of the house.
You may also be asked to pay a security deposit as a down payment. If, by the end of the contract, you still don’t qualify for a mortgage for the property, you will have the option to terminate the agreement. Be aware, however, that you could lose your security deposit.
Have you considered asking your loved ones for a helping hand? Your parents or other family members might just be willing to help you buy your own home, such as by acting as a guarantor for your loan. However, it’s important to understand the legal obligations this entails, since this person will be responsible for paying your loan on your behalf if you’re unable to do so.
In Quebec, giving a cash gift is one of the most common ways parents help their children buy a home.
Some parents may also want to sell the family home to their child for less than its market value. This is called a gift of equity.
Now you know how your credit can affect your homebuying plans. Fortunately, there are many ways to rebuild, or simply maintain, your credit score!
First and foremost, you need to get an accurate picture of your credit situation. You can request a copy of your credit report free of charge from the two Canadian credit bureaus, Equifax and TransUnion. Contrary to popular belief, this will not hurt your credit in any way.
With your report in hand, you’ll be able to identify the factors that may have impacted your score and catch any mistakes. Errors on your report could be a sign of fraud or identity theft, so you should ask for them to be corrected right away to avoid any negative repercussions on your mortgage demand and rates offered.
Did you know that paying your bills even a little late can affect your credit score? To make sure you pay them on time, try setting up automatic payments or simply pay all your debts as soon as you get your statement.
If you’re used to making the minimum payment on your credit card, try to pay off a larger portion of your balance, or even the whole amount, going forward. This will show lenders that you’re able to pay back your debts.
Every time you apply for a loan, whether it’s to buy a property or a new car, a credit check will be done and recorded in your file. Too many credit checks, or multiple credit checks in a short period of time, could give the impression that you’re in urgent need of money or that you’re living beyond your means.
The older your accounts are, the better they’ll reflect your spending habits and repayment capacity. So, it’s often a better idea to keep the credit accounts you already have rather than opening new ones.
While having multiple credit cards could hurt your credit score, having a few different types of credit accounts—for example, a credit card and a line of credit—could work in your favour.
Not many people know this, but it’s important not to use all of your available credit. In fact, you really shouldn’t go above 30% of your credit card limit. That means that a credit card with a $1,000 limit should never have more than a $300 balance. If you tend to exceed this 30% threshold, it might be a good idea to ask your credit card provider to raise your credit limit.
No matter your situation, a mortgage broker can support you through your homebuying process. This will give you the best chance of improving your credit score!
- Your credit history determines the mortgage rate and terms you are offered, not only your income.
- Most lenders will not issue you a mortgage if your credit score is below 600.
- A large down payment may improve your chances of getting a mortgage with favourable terms.
- Private lenders usually have more flexible requirements.
- Renting with the option to purchase can give you time to improve your credit score.
- Review your credit report to get an accurate picture of your credit situation and identify strategies to improve your score.