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How to Secure a Home Equity Loan with Bad Credit

Catherine Hiles • October 18, 2023

A home equity loan is a helpful way to tap into your home’s value when you need extra cash. Whether you want to take on a significant home improvement project, pay off a medical bill after an unexpected hospital visit, or help pay for college tuition, a home equity loan can help.

But what if you don’t have a good credit score? Can you still qualify for a home equity loan?

The answer is maybe. Although getting a home equity loan with bad credit can be a challenge, it’s possible. There are some banks that give home equity loans with bad credit, though you will likely need to work harder for approval. Learn more about how to get a home equity loan with bad credit.

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Requirements for a home equity loan

Although the exact home equity loan requirements vary between lenders, most want to see applicants meet a few basic requirements, like the following:

  • Proof of stable employment and a steady, reliable income
  • A history of on-time bill payments, including loans, credit cards, housing, and utility bills
  • At least 15% equity in your home
  • debt-to-income ratio (DTI) under 36%
  • A credit score of 620 or higher

These requirements are similar to the ones you’ll need to meet to become a homeowner.

How to get approved for 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.

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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4 home equity loan alternatives for bad credit

Several alternatives exist if a home equity loan isn’t a realistic option. Look into getting a personal loan, a home equity line of credit, a reverse mortgage, or a cash-out refinance. Learn more about each option below.

1. Personal loans

A personal loan could be the right move if you can’t qualify for a home equity loan. However, a personal loan is considered unsecured since it’s not backed up by collateral like a home equity loan.

One of the most significant differences between secured and unsecured loans is their rates. An unsecured personal loan will have a higher interest rate than a secured home equity loan.

If you default on a personal loan, you won’t lose any property – but if you default on a home equity loan, you could lose your home. Unsecured loans are much riskier for lenders. The higher interest rate helps protect the lender in case you default.

Learn more about personal loans to determine if they’re your best option.

2. Home equity line of credit (HELOC)

Another home equity-based option is a home equity line of credit (HELOC). While a home equity loan gets you a lump sum of cash from your home’s equity, a HELOC acts as a line of credit using your home’s equity. If approved, you’ll be given a limit like you would for a credit card, and you can withdraw funds as needed.

Can you get a HELOC with bad credit? It will depend on the lender, but it’s worth looking into a HELOC low credit score lender if this option is appealing.

A HELOC term is split into a draw period and a repayment period. The draw period is when you can take money out. During that time, you’ll need to make minimum payments like you would on a credit card. You must pay off the HELOC, including the principal and interest, during the repayment period. HELOCs usually have variable or adjustable interest rates, whereas home equity loans tend to have fixed rates.

3. Reverse mortgage

If you’re 62 or older and fully own your home (or have paid off most of your mortgage), a reverse mortgage could be a good home equity loan alternative.

A reverse mortgage is a loan you can take out using your home as collateral. The lender will approve the loan based on the value of your home, and the loan will be repaid when you die or sell the house.

Although a reverse mortgage can be useful, it’s not always the best choice. Taking out a reverse mortgage means you won’t be able to pass your home onto beneficiaries when you die – and, in some cases, you may pass debt to family members. Talk to a financial advisor before taking out a reverse mortgage to ensure it’s the right choice.

4. Cash-out refinance

A cash-out refinance is similar to a traditional refinance, except you’ll refinance for more than you owe on your loan and take a lump sum of cash out of your home equity. This option means you’ll have a higher loan amount, but you’ll only have one home loan payment to worry about rather than the two you would have with a mortgage and a home equity loan.

A cash-out refinance might be the right play if you can refinance for a lower interest rate or a shorter loan term. However, refinancing is likely not in your best interest if interest rates have risen since you initially took out your mortgage.

Boost your credit for easier home equity loan approval

Although it isn’t impossible to get bad credit equity loans, a low score will make it harder to get approved. Even the best lenders will think twice before approving a loan for a customer with an undesirable credit score.

However, working on your credit score before you apply can improve your chances of approval – and if your application is still denied, you can look into several alternatives.

Find out what is a good credit score to buy a house or get a home equity loan.

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1 Information from CFPB's "Debt to Income Calculator Tool" as of October 4, 2023: https://files.consumerfinance.gov/f/documents/cfpb_your-money-your-goals_debt_income_calc_tool_2018-11_ADA.pdf

2 Information from Lendingtree's "Home Equity Requirements: What You'll Need to Qualify" as of October 11, 2023: https://www.lendingtree.com/home/home-equity/home-equity-loan-requirements/

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