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How to Secure a Home Equity Loan with Bad Credit

Your credit score isn’t the only factor lenders will consider when reviewing your application for a home equity loan, but it’s undoubtedly a major factor. Before you start the process, consider the following tips to help make your application more inviting to potential home equity loan lenders.

H3 – Test out a home equity loan calculator before initiating your application

Many lenders and personal finance websites provide online home equity loan calculators. You can use one of these calculators to see whether you would qualify for a home equity loan based on your income, credit score, and current home equity amount.

Testing your eligibility before applying for a home equity loan can help gauge your approval likelihood. And, if the calculator suggests you won’t be approved, you can make a plan to improve your prospects.

Check your credit score

Reviewing your credit report and checking your credit score is important before applying for any financial product, whether a credit card, personal loan, home equity loan, or a type of mortgage. Not only can you get a clearer picture of what the lender will see while processing your application, but you can identify any issues on your report that need your attention.

For example, if you see a delinquency on your report that doesn’t belong to you, you can file a dispute to remove it. This could help improve your credit score.

Knowing what’s on your credit report is essential, even if everything looks accurate. You can make a plan to build a better credit score before applying for a home equity loan.

Calculate your debt-to-income (DTI) ratio

Your debt-to-income (DTI) ratio shows lenders how much debt you have in relation to your monthly income. A high DTI ratio is a red flag for lenders because it suggests you’re less likely to be able to make loan payments compared to a borrower with a lower DTI ratio.

Your DTI ratio is calculated by dividing your monthly debt payments by your gross income. For example, if you make $5,000 monthly and have $2,500 total debt (including a mortgage, car payment, and student loan payment), your DRI ratio is 50%.

Ideally, your DTI ratio will be less than 36%.1 If it’s higher than that, you’ll have a more challenging time getting approved for a home equity loan.

Make sure you have enough equity

Equity is the amount of your home that you own. For example, if your home is worth $300,000 and you have $240,000 on your mortgage, you have 20% in equity.

Most lenders require at least 15% equity in your home to qualify for a home equity loan.2 So, if your equity is below this percentage, a home equity loan probably isn’t the right option.

Consider using a cosigner

A cosigner could help strengthen your home equity loan application if your credit score is low. A cosigner acts as a guarantor on the loan. Their credit will be equally affected if you default.

For that reason, finding a cosigner is challenging. A relative is often the best option, but if you default on the loan, it could lead to a strained future relationship.

Consider lenders you’ve already worked with

You may be able to negotiate a deal if you have a good relationship with your existing lenders.

For example, if you’ve been a loyal customer with your bank for many years, check to see if they offer home equity loans. If they do, they may be more willing to overlook a lower-than-ideal credit score since you’ve been a long-term customer.

Craft a letter to the lender detailing your credit history

If all else fails, writing a letter to the lender can help strengthen your application. The letter can help explain any negative marks on your credit report. For example, if you have a bankruptcy on your credit report, your letter can explain what led to that and how you’ve been working to build your credit back up.

There’s no guarantee that a letter will help approve your loan application, but it can’t hurt. It could certainly give you a fighting chance.



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