How To Get A Home Equity Loan With Bad Credit

Money’s main takeaways

• Home equity loans let you leverage the increase in your home’s value and use the proceeds for just about any purpose, from home renovations to consolidating high-interest debt.
• There are home equity and HELOC lenders who have credit score requirements in the 600s. However, you will pay a higher rate and likely be required to have at least 20% equity in your home.
• Your existing mortgage lender may approve you with a lower credit score if you have a history of on-time payments and a steady income.
• Disputing incorrect or outdated information on your credit report, getting a cosigner, and reducing your DTI are all ways to improve your chances.

Read on to find out how you could qualify for a home equity loan, even with bad credit.

Table of Contents

Home equity loans and HELOCs when you have bad credit

There are many ways to leverage the equity you have in your home. Two of the most popular? Those would be home equity loans, sometimes called second mortgages, and home equity lines of credit (HELOCs). It is also possible to get a no appraisal home equity loan under certain circumstances.

Both of these options let homeowners borrow an amount equivalent to approximately 80% to 90% of their home’s equity (minus their current mortgage balance), but they do so in different ways.

Home equity loans, for instance, provide you with a lump sum that you’ll pay back in installments over a set amount of time. HELOCs, on the other hand, are a type of revolving credit. This means you can borrow up to a pre-established credit limit during its draw period, and that credit becomes available again as you pay back what you’ve borrowed. Once the draw period ends, the repayment period begins, and you will no longer be able to withdraw money.

It’s important to note that both loans present a big risk: Since your home serves as collateral, the bank could foreclose on it if you fail to make your payments.

Both types of loans have similar requirements, and while it might be challenging to qualify for these with a bad credit score, it’s not impossible provided you meet other criteria.

For example, banks that cater to borrowers with low credit scores might require a higher income and therefore, a lower debt-to-income ratio. They might also come with higher interest rates (due to their higher risk) or ask for a greater percentage of equity in the home, as this increases the skin you have in the game and reduces the chance you’ll skip out on payments.

Approval is not guaranteed

You should know that a poor credit history significantly reduces your chances of approval or will come at a higher cost in terms of stricter qualifying requirements that must be met and higher interest rates. If a home equity lender “guarantees” approval, it should raise a red flag and you should be extremely cautious about applying for a home equity loan with that lender.

Always get a full loan estimate that breaks down the costs and fees of any loan you’re considering. You should also get quotes from a few different lenders to ensure you’re getting the best deal.

Can you get a home equity loan with bad credit?

If your FICO score is between 620 and 700, you could probably qualify for a home equity loan with some lenders, provided you have enough equity in your home and a high income.

Home equity lenders typically approve borrowers who have 15% to 20% equity in the home. If your score is lower than 700, however, they may require you to have at least 20%.

In addition to your credit score and equity, lenders will also consider your income and debt-to-income (DTI) ratio. This is the percentage of your monthly gross income that goes toward paying your existing debts — plus your new expected home equity loan payment.

Many lenders allow for a maximum DTI of 43%, although some might ask for a much lower percentage if you have a low credit score.

Can I get a HELOC with bad credit?

Much like home equity loans, most HELOC lenders require minimum credit scores in the 620 to 700 range, at least 15% to 20% equity in the home and a maximum DTI of 43%.

One thing to consider, however, is that, unlike fixed-interest-rate home equity loans, HELOCs typically feature variable interest rates. This could cause your rate and payment to increase over time, making it harder to budget for.

If you have bad credit and are applying for a HELOC, it’s important to remember that lenders will probably offer you higher interest rates, and those could become even higher over the life of the loan. This can be dangerous if you’re on a tight budget or don’t expect to earn more once those higher payments come around. It could also put you at risk of foreclosure if you can’t make payments.

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Requirements to get a home equity loan with bad credit

Lenders that issue bad credit home equity loans will likely require the following:

• A minimum credit score of 620
• 15% to 20% equity in the house
• Maximum DTI of 43%
• Be able to pay the loan origination fee and other closing costs
• Consistent income/employment history

Qualifying for a loan will be difficult if you don’t meet these requirements. Remember, though: Lenders can vary widely on qualifying requirements and loan programs. If you’re worried about qualifying, shop around and compare options from several banks and lenders.

How to qualify for a home equity loan with bad credit

While it’s not easy to qualify for a home equity loan or a home equity line of credit if you have a low credit score, it’s not impossible either. Here are some steps that could help you increase your chance of approval.

Step 1: Review your credit report

Examining your credit report carefully is an essential step before applying for any loan. All American consumers are allowed one free credit report annually from all three credit bureaus — TransUnion, Equifax, and Experian. You can go to AnnualCreditReport.com to request a copy of your report.

Borrowers with high credit scores typically have an easier time qualifying for loans and often get lower interest rates. Knowing exactly where you stand will help you focus on the mortgage lenders that accept scores within your range.

But there’s another good reason to check your credit carefully. Credit reporting mistakes are more common than most people think, and it’s worth checking whether errors are dragging your score down. Once you have your reports, review them thoroughly, checking for any incorrect information or negative items that should no longer be reported. If you find mistakes or outdated information in your payment history, you can dispute the items with collectors or bureaus and get them removed from your report.

Alternatively, if you find extensive inaccuracies, you could engage the services of a credit repair company, which can dispute the items for you. If that’s your case, check out our picks for the best credit repair companies to find the right one for you.

Finally, if all the negative items in your reports are correct — and your credit score is 620 or less — we recommend you wait until your personal finances improve before applying. Focus on lowering your credit utilization ratio by paying down any bills and loans (especially your first mortgage) on time. This could make a significant difference in your credit profile in the short term.

Step 2: Calculate your equity and loan-to-value ratio

To put it simply, equity refers to just how much of your home you own compared to what you still owe the bank. And, as we mentioned above, most banks will require you to have at least 15% to 20% equity in the home — maybe more if your credit is on the lower end of the minimum range required.

The first step in calculating your equity is to get your home professionally appraised. While you might be tempted to calculate the value of your home using a market value estimation website, this will never be as precise as a professional assessment.

Calculating your equity is simple enough: simply subtract your mortgage balance from your home’s current market value. Say you owe $150,000 on your mortgage note and your home’s current appraised value is $250,000:

$250,000 – $150,000 = $100,000

In this example, your equity in the home is $100,000. To find out whether this amount is enough to qualify (that is, more than 15% to 20%), you can divide the amount of your equity by the appraised value of the home and multiply that by 100:

($100,000 / $250,000) * 100 = 40%

In this example, you’d have more than enough of the equity percentage required by most banks.

Once you know your equity, you’ll get another important number: the loan-to-value ratio (LTV). The LTV is the opposite of your equity and shows just how much you still owe on the property — the higher your loan balance, riskier your loan is (it means you have a lot of debt payments!) and the more reluctant banks will be to approve you. Most lenders look for LTVs of less than 80%, meaning that the borrower has a loan balance that’s 80% or less of the home’s current value.

Since home equity loans are second mortgages, lenders will also consider them and calculate your combined loan-to-value ratio (CLTV) when determining your total property debt obligation.

If you don’t have enough equity in your home to qualify, there are some things you can do before you apply. If your financial situation allows, you can switch to making biweekly payments on your mortgage instead of monthly payments. (In other words, pay half your monthly balance every two weeks.) This means you’ll be making at least two extra payments a year and can reduce your mortgage balance — and thereby increase your equity — faster.

You can also prioritize projects that speed up your home’s appreciation, that is, its gained value. According to many real estate experts, home improvement projects like kitchen and bathroom upgrades can quickly increase a home’s value.

Step 3: Calculate your DTI (and reduce it if possible)

The debt-to-income (DTI) ratio is an indicator of how much of your income is already going towards paying existing debt. Banks use this percentage to gauge whether you can afford another loan payment.

You can calculate your DTI by dividing your monthly debt — such as student loans, personal loans, credit cards, auto loans, rent or mortgage payments, etc. — by the amount you earn before taxes are deducted (your gross income).

For example, let’s say your gross monthly income is $4,000, and $1,400 of that goes toward debt payments. You’ll divide those amounts and then multiply the result by 100 to get a percentage:

($1,400 / $4,000) * 100 = 35%

Different lenders have different DTI ratio requirements; however, many look for a number around 35% or less, and will not approve anything over 43%. If your number is higher than that, it’s a good idea to work on reducing the ratio by paying down current installment loans before applying for a home equity loan or line of credit.

Also, take note that DTI does not consider daily expenses such as utilities, phone bills, child care and groceries. Remember to add in these expenses when determining if you can afford a new payment.

Step 4: Find a lender that accepts lower credit scores

The first step in finding a lender is to contact your current mortgage company since borrowers often face better odds with banks they already do business with.

However, if your current lender turns you down, there are other alternatives. There are plenty of great lenders that will consider applicants with credit scores in the mid-to low-600s.

Many of these are featured in our list of the Best Home Equity Loans, which includes:

Be sure to compare at least a few options to ensure that you not only qualify for the loan but also get the best terms and lowest fees and rates. If possible, apply for your loans within the same two-week period. This allows them to be counted as one single credit inquiry and can reduce the impact your applications have on your credit score.

Step 5: Use a co-signer

If your credit score is below what most lenders consider acceptable, and you have someone willing to share responsibility, asking them to co-sign your loan might be a good choice.

Also called a co-applicant or co-borrower, this person would be responsible for repaying the loan if, for some reason, you could not. This reduces the risk of default for the bank, which makes lenders more willing to approve the loan — and potentially even offer lower interest rates and better terms. To improve your chances of qualifying, your co-signer should have a stable income and a fair to excellent credit score.

For many borrowers with poor credit, getting a co-signer with a higher credit score can be the key to approval and/or better interest rates.

Pros and cons of a home equity loan

Borrowing money through a home equity loan has pros and cons.

Home equity loan alternatives

If you’ve decided that home equity loans or lines of credit aren’t the right choices for you, there are other loan options to consider.

Home equity sharing

Home equity sharing is a fairly new option in the home equity market. It’s an investment deal in which a borrower lets a company buy a portion of the equity in their home in addition to future changes to the equity. In this type of arrangement, the homeowner pays the funds back as a lump sum when the term of the contract ends, they sell the home or buy out the investor.

These usually cost an upfront fee but come with no interest or monthly payments. Instead, the investor gets a cut of your eventual sale proceeds later on.

If you are interested in home equity sharing, check out our best home equity sharing companies.

Cash-out refinance

Cash-out refinancing involves replacing your existing mortgage with a new one for a larger loan amount. The lender pays off the old mortgage and gives you the surplus as cash. This means you’ll start over again with a new loan with different loan terms and interest rates.

Keep in mind that this could mean trading in a low interest rate on your existing mortgage for a potentially higher one on your new loan (though it depends on what your current rate is and where the market is headed.)

To check whether this is the right time to refinance, read our article on current mortgage rates. You should also talk to a mortgage loan officer who can run the numbers and determine what your new rate and payment might be if you were to refinance. This can help you gauge whether a cash-out refinance is the right move for your finances.

If you’re interested in this option, make sure to check out Money’s best mortgage refinance companies.

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Personal loans

Unlike home equity loans and lines of credit, personal loans are unsecured loans — in other words, they do not require collateral. This means that you won’t lose valuable assets (like your home) if you can’t make your payments, although it will hurt your credit.

However, because they’re unsecured loans, they’re harder to qualify for when you have poor credit, as banks might not be willing to take the risk unless you offer a valuable asset as a guarantee.

But if you can qualify for an unsecured loan like this one, personal loans are good options, especially if you want to borrow smaller amounts and need the money fast. Just note: These usually come with higher interest rates than mortgages, home equity loans, and HELOCs.

Reverse mortgage

A reverse mortgage is a type of mortgage that lets homeowners 62 and older (sometimes as young as 55) borrow a lump sum of money, open a line of credit or receive monthly payments while using their home as collateral. Unlike a regular mortgage, borrowers don’t have to make monthly payments to the lender. Instead, the lender pays them. However, the amount the borrower owes increases, not decreases, over time.

Reverse mortgages are repaid once the owner (and their spouse, if they’re co-borrowers) moves out of the home for over a year. If the owner dies before moving out, their heirs must decide whether to sell the home, repay the loan or surrender the title to the lender.

Our article, Reverse Mortgage Pros and Cons, has important information every homeowner needs to know before applying for this kind of mortgage.

One risk to note about reverse mortgages: Though you don’t have to make monthly payments, reverse mortgages do require you to stay current on your property taxes, home insurance, and home maintenance. If you can’t do this, the lender could foreclose on your home.

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Summary of Money’s How to Get a Home Equity Loan with Bad Credit

• While it might be challenging to qualify for a home equity loan or line of credit when you have bad credit, there are steps you can take to increase your chances of approval.

• Most mortgage lenders have minimum credit requirements of anywhere between 620 and 700.

• These types of loans use the equity in your home as collateral, meaning there’s a risk of foreclosure if you default on the loan.

• Lenders also require a certain amount of equity in your home — typically at least 15% to 20%, but this might be higher for borrowers with bad credit.

• Bad credit home equity loans typically have stricter approval requirements in other areas, such as a greater percentage of equity and/or higher income.