How to Buy a House With Bad Credit: Loan Options and Strategies

Defining “Bad Credit” in Mortgage Context

In mortgage underwriting, “bad credit” isn’t a single threshold — it’s a spectrum with meaningfully different program access at different score points. The CFPB classifies scores below 580 as “poor” and 580–669 as “fair.” But lenders use a middle-score methodology: when they pull your tri-merge report (Equifax, Experian, TransUnion), they use the middle of your three scores as your qualifying score. On a joint application, they use the lower of the two borrowers’ qualifying scores. A 610 qualifying score and a 580 qualifying score are in entirely different tiers of program access.

FICO weights five factors: payment history (35%), amounts owed relative to limits (30%), length of history (15%), credit mix (10%), and new inquiries (10%). Understanding which factors are driving your score low determines which tactics will move it most efficiently. A 580 driven by high utilization on three maxed-out cards can recover 40–60 points in 60 days by paying balances below 10%. A 580 driven by a Chapter 7 bankruptcy from 18 months ago requires time, not tactics — FHA has a mandatory 2-year waiting period from discharge date regardless of what you do between now and then.

Every Program Available by Score Tier

500–579 FICO — FHA with 10% down: HUD handbook 4000.1 explicitly permits FHA financing at 500–579 with 10% down. The practical challenge: most FHA lenders apply overlays requiring 580+ regardless of down payment. Finding a lender who genuinely works at the 500 tier means actively seeking community banks, credit unions, or HUD-approved nonprofit lenders who do heavy manual underwriting volume. Expect stricter DTI limits and significant compensating factor requirements. Not impossible — but you’ll call 15 lenders to find the three who actually do it.

580–619 FICO — FHA at 3.5% down; VA for veterans: The 580 threshold is the most consequential credit score milestone in residential mortgage lending. Below 580: FHA requires 10% down. At 580: 3.5% down. On a $250,000 purchase that’s $25,000 versus $8,750 — a $16,250 difference that changes whether a buyer can transact at all. VA loans have no official FICO floor per the VA Lender Handbook, though most lenders set overlays at 580–620. Veterans at 580–619 should specifically ask each lender: “What is your overlay minimum for VA purchase loans?” Some lenders work at 580; others require 620.

620–679 FICO — Conventional available but expensive; FHA often cheaper: Conventional minimum is 620, but the loan-level price adjustments (LLPAs) at this score range are punishing. At 620 with 95% LTV, LLPA is approximately 3.25% of the loan amount — $9,750 on a $300,000 loan. That translates to roughly a 0.65% rate premium. FHA at the same score has no LLPAs, just flat MIP. For most buyers in this range, FHA produces lower total monthly cost despite the MIP. Run both scenarios with your lender before choosing.

680–719 FICO — Both programs competitive: LLPAs moderate significantly at 680. At 680 with 10% down, LLPA drops to approximately 0.75% — $2,250 on $300,000. PMI rates also improve. The FHA vs. conventional decision at this tier turns primarily on expected hold period: FHA MIP doesn’t cancel with less than 10% down; conventional PMI cancels at 78% LTV. For buyers planning 10+ year holds, conventional’s PMI cancellation advantage is meaningful. For buyers expecting to sell or refinance within 5–7 years, FHA’s lower rate often produces lower total cost.

720+ FICO — Full program access, minimal cost adjustments: LLPAs at 720 are negligible (0–0.375%). PMI rates are at their best tier. Automated approval from DU or LPA is near-certain. Rate competition between lenders is where optimization happens at this tier.

Manual Underwriting: Your Path When Automation Declines

Fannie Mae’s Desktop Underwriter and Freddie Mac’s Loan Product Advisor are automated systems that render approve/eligible, refer/eligible, or ineligible decisions. At scores below 640, automated approval becomes uncommon. But a “refer” from TOTAL Mortgage Scorecard on FHA — or a “refer/eligible” from DU on conventional — is not a denial. It means a human underwriter reviews your complete file against compensating factors that automated systems underweight.

Per HUD 4000.1 Section II.A.4, FHA manual underwriting compensating factors include: verified rental payment history (12–24 months of on-time rent, verified by canceled checks or a professional manager’s VOR), cash reserves of 3+ months PITI after closing, low DTI relative to program ceiling (40% or below when program allows 57%), and stable multi-year employment with the same employer. The rental history factor is the single most impactful for buyers who’ve been renting while rebuilding credit — it directly demonstrates the ability to make a consistent monthly housing payment.

Not all lenders manually underwrite. It requires trained staff and institutional tolerance for the additional time and complexity. When evaluating lenders for sub-620 applications, ask directly: “Does your underwriting team manually underwrite FHA files that receive a refer decision from TOTAL Mortgage Scorecard?” A loan officer who hedges or says “it depends” is telling you they don’t do it regularly.

The Real Dollar Cost of a Lower Score

On a $300,000 conventional 30-year loan, the rate difference between a 620 and a 760 FICO score is approximately 1.25–1.50 percentage points when LLPAs are factored in. At a 1.375% rate premium: the monthly P&I payment is approximately $228 higher on the 620-score loan. Over 30 years: $82,080 in additional interest paid. Over 7 years (before PMI would cancel and before many buyers refinance): $19,152 in additional cost from the score differential.

The buy-now-vs-wait analysis deserves careful thought in appreciating Texas markets. At 5% annual appreciation, a $350,000 Texas home becomes $367,500 in 12 months — $17,500 in equity appreciation foregone by waiting. Versus improving from 620 to 680 in 12 months (the target improvement that drops the LLPA meaningfully) and saving approximately $130/month in payment. Break-even: $17,500 ÷ $130 = 134 months — 11+ years. The math consistently favors buying now and refinancing later when your score improves, rather than waiting to accumulate a better score in an appreciating market.

Fastest Credit Repair Tactics Before Application

Utilization — revolving balance as a percentage of credit limit — is the fastest-moving FICO factor because it’s recalculated fresh every time your card issuers report to bureaus (typically your statement closing date). Paying a $4,800 balance on a $6,000-limit card from 80% to 25% utilization can move a score 20–50 points within a single billing cycle. No waiting period. No dispute process. Just pay the balance and let the next reporting cycle carry the updated number to the bureaus.

The tactical sequence for rapid pre-application score improvement:

1. Pull all three bureau reports at AnnualCreditReport.com. Dispute every error — incorrect late payment dates, accounts not yours, settled collections still showing open. CFPB dispute processes require bureaus to respond within 30 days. A single corrected inaccurate 30-day late can produce a 20–40 point improvement.
2. Pay revolving balances to below 30% utilization on every card. Prioritize highest utilization first. If cash is limited, even moving from 90% to 50% on one card produces score improvement.
3. Do not close paid-off accounts. Closing reduces available credit and increases overall utilization — exactly the opposite of what you’re trying to accomplish. Leave zero-balance cards open and unused.
4. Make no new credit applications for 6 months before mortgage application. New accounts reduce average account age and generate hard inquiries, both of which hurt.
5. Ask your loan officer about rapid rescore — a service where your lender submits documentation of a legitimate score improvement (paid collection, corrected error, paid-down balance) to the bureau vendor for update in 3–7 days rather than the standard 30-day cycle. This can unlock a threshold score before your application window closes.

Down Payment Sources for Sub-620 Buyers

FHA’s 3.5% down payment can come entirely from gift funds from family members — HUD explicitly permits this with a properly documented gift letter confirming no repayment is required. This is one of FHA’s most practically important features for first-generation homebuyers: parents or grandparents who can’t afford to give a large sum can fund the entire minimal down payment, and FHA treats it identically to the buyer’s own savings.

Texas-specific down payment assistance: TSAHC’s Homes for Texas Heroes provides 3–5% grants (no repayment) for teachers, first responders, veterans, and correctional officers. TSAHC’s Home Sweet Texas provides the same structure for general income-qualifying buyers. TDHCA’s My First Texas Home provides 0% interest second liens of up to 5% with no required monthly payment (repaid at sale or refinance). These programs stack with FHA — a TSAHC 4% grant on a $230,000 loan ($9,200) covers the entire FHA 3.5% down payment ($8,050) with $1,150 left toward closing costs. Stacking DPA with FHA is how buyers with sub-620 scores and limited savings achieve legitimate near-zero-cash-to-close purchase transactions.

What Closing Actually Looks Like With Impaired Credit

FHA’s upfront MIP of 1.75% is financed into the loan in nearly all cases — $4,375 on a $250,000 loan, adding to the balance. Annual MIP at 0.55% (per HUD Mortgagee Letter 2023-05) adds approximately $115/month on that same balance, declining slightly as principal pays down. With less than 10% down, MIP continues for the life of the loan.

The exit from FHA MIP is refinancing into conventional once you’ve reached 20% equity through appreciation and amortization. In Texas metros averaging 4–5% annual price appreciation, a buyer who puts 3.5% down on a $250,000 home in 2025 may reach 20% equity in 5–7 years — at which point a conventional refinance eliminates MIP permanently. Budget the MIP as a known, finite cost on the path to that refinance. It’s not permanent if you manage the timeline intentionally.

Total cash needed at closing on a 3.5%-down FHA purchase at $230,000 with TSAHC grant covering down payment and seller-paid closing costs: potentially $500–$2,000 (earnest money only, which credits back at closing). This structure — FHA + DPA + seller concessions — is how buyers with 580–620 scores and minimal savings close on Texas homes every month. It requires finding a lender experienced with DPA layering and a real estate agent who knows how to write offers with seller concession requests that sellers will accept. The mechanics are achievable; the key is working with professionals who’ve executed this specific combination before.