The FHA loan is known as one of the most flexible programs on the market and for good reason – you can even qualify with a score as low as 500. Of course, you will have different requirements if your score is that low, but that being said, an under 620 credit score is definitely eligible, the question is which lender will give it to you.
How the FHA Works
What you have to understand first is that the FHA does not fund the loans it guarantees. It strictly guarantees them. This means that the lender that approves your loan also funds it. That being said, there are two entities that have a say in who qualifies for the FHA loan and who does not. Just because the FHA says that someone with a 600 credit score qualifies under the standard underwriting guidelines does not mean the lender is going to be willing to take that risk.
The FHA is there to pay the lender a portion of the money they lose if a borrower defaults on their loan. Ultimately, it is the lender taking the risk, which is why they typically add their own rules on top of the rules set forth by the FHA. If the loan is going to be sold to an investor, that investor might have rules too. Everyone wants to minimize the risk that they take.
Minimum Credit Scores
So what are the exact minimum credit scores allowed? That’s a tricky question, but according to the FHA, the following rules prevail:
- Credit scores of at least 580 qualify under the standard underwriting guidelines and only require a 3.5% down payment
- Credit scores between 500 and 579 still qualify, but with tighter scrutiny and a 10% down payment
The problem is finding a lender that is willing to provide a loan to someone with a 500 credit score. This is not to say that there are not lenders out there, but you will have to do a lot of shopping around.
What does an Under 620 Credit Score Mean?
620 seems to be the magic credit score number that makes lenders willing or unwilling to offer a loan to borrowers. If you have an under 620 credit score, you are considered riskier than those borrowers with a score over this threshold. In many cases 620 is the conventional loan cutoff, which is why many lenders stick to this number; however, it is even hard to find lenders willing to provide conventional loans with this score unless there are compensating factors such as stable employment, a low debt-to-income ratio, or low credit utilization rates.
The Streamline Refinance
One loophole to the “620 rule” that many lenders seem to follow is the FHA Streamline Refinance. If you already have an FHA loan and wish to lower your interest rate, your credit score does not matter. The FHA does not require that the lender pulls your credit or analyzes it at all – they simply require that your housing payments are on time with only one late payment in the last 12 months (no more than 30 days late).
With the Streamline Refinance you are able to lower your interest rate, therefore, saving money every month, which is why the lender does not have to care about things like:
- Credit score
- Appraised value
- Debt ratio
If you made your housing payments on time for the last 12 months, chances are you will be able to continue that pattern even easier with the lower payment that the Streamline Refinance provides.
If you have an under 620 credit score, you can expect to have to shop around with several lenders to secure FHA financing, but you should be able to find it. Many lenders are getting more relaxed with their requirements because the FHA is slow to penalize lenders that have a default rate that required the FHA to pay them back. The default rates are compared to the national average of loans in the credit score bracket, which makes it less risky for lenders to lend to borrowers with a lower credit score.
If one lender turns you down for FHA financing because of a low credit score, do not give up – keep applying with different lenders until you find one willing to lend to you on favorable terms.