Game plan for preparing to buy a home when you’re credit score is low

I don’t blame anyone for wanting to own a home.  Sometimes when I meet with clients and review their current scenario, a game plan needs to be created so they can work on getting themselves into a better position to buy a home.  The last thing anyone wants is to cram themselves into a mortgage they cannot afford or to commit to a long term payment when they don’t have a great track record of making payments on time. Some times a plan may take 6 months or a year or longer before someone is ready to buy a home.

I have someone with low credit scores who wants to buy a home.   She knows she will probably be a candidate for FHA financing because she has little down payment and her credit.  Although FHA is not as persnickety about credits scores as conventional financing, they scrutinize credit history: especially the last 12 months.

This person has a few late payments this year, the last one being as recent as August.  FHA financing is most likely out of the question for her until August next year assuming she does not make any other late payments between now and then. She can work on her credit for the next 10-12 months (until she has 12 months since her last late payment).   She doesn’t have any collections but she does have a few small accounts that are “maxed out”. 

  • Credit card “A” with a balance of $477 and a limit of $500.
  • Credit card “B” with a balance of $323 and a limit of $300.
  • Credit card “C” with a balance of $215 and a limit of $300.
  1. The first thing she should do is focus on getting card “B” under the limit of $300.  She’s getting whammo’d with her credit scores for being extended beyond what her credit limit is with this account (in addition to being maxed out).   She should at least pay it down enough to make sure that her interest fees won’t keep popping her over her limit.
  2. Next she should select one of her two smallest cards to pay down to at least just below 50% of her card limit.   Card “C” would only take about $65 to bring her debt down to 50% of the line limit (300 x 50% = $150).
  3. Then pay down the next card to at least 50% of the limit.  “Card B” will take $150 (assuming she’s paid the extra $23 that has pushed her over the limit) to be at 50% of the credit line limit.
  4. Credit card “A” will take a little extra cash at $227. (500 limit x 50% = $250.  477 – 250 = 227).

She needs to keep her credit below 50% of the credit line at the very minimum.  I know I said FHA is not as picky as conventional.  However, you do want your credit scores above 600 in order to receive better pricing (620 and higher is even better).

Not only will this help her with qualifying for FHA financing, she’s probably also paying higher insurance rates due to her current credit scores. 

She has a decent income and no savings.   She needs to use this time of working on her credit to also build up her reserves.  Not only for what the lender will require (3.5% minimum down payment for FHA as of January 1, 2009); but for her sake should her income change or issues arise, she should have a minimum of 6 months worth of living expenses saved (FHA does not require this, I’m suggesting it).

She has been considering homes priced around $275,000.  FHA’s minimum required investment for this home next year will be $9,625.  The seller can pay the remaining closing costs and prepaids as long as she has met the above requirement (which can be a gift or loan from family members)–this would need to be negotiated in the purchase and sale agreement. 

The proposed mortgage payment would be around $2,000 (including taxes, home owners insurance and mortgage insurance).  This is $700 more per month than what she is currently paying for rent.  Once she has corrected her credit, she should practice making a $2000 mortgage payment by paying the difference ($700) into a savings account that she leaves untouched for her down payment and to hopefully create a savings cushion.  $12,000 in savings would be ideal (6 months of mortgage payment) but not required.   If she has no savings, it will take her just over a year to pay $700 per month to come up with the down payment (9625 divided by 700 = 13.75).  Another 17 months to have a savings cushion of $12,000. 

I know this isn’t instant gratification.  It is developing responsible financial habits.  There are expenses to owning a home beyond renting.  One of my last homes required a new roof just months after moving in to the tune of $15,000.  Savings has always been important and it’s even more true in our current economy.

She’s all ready moving in the right direction by contacting a Mortgage Professional who is interested in her long term financial well-being and is willing to help her create a game plan.

Check out my related articleGetting on Track to Buy Your First Home

Cheap Gas and The Mortgage Porter Quarterly

Hat tip to Larry for sharing this link with me on where to find the cheapest gas by zip code.   I’ve published more tips on how to ease the pain at the gas pump in my latest issue of The Mortgage Porter Quarterly, 2nd Issue 2008 which should be arriving in mail boxes soon. 

This issue features:

  • FHA is Back and Better than Ever
  • Tips for Beating High Gas Prices
  • What’s New with Rhonda (me)
  • Credit Card Crackdown Making Headlines
  • A recipe for Thai Lettuce Wraps
  • Coupon towards Closing Costs

With every issue of The Mortgage Porter, I recommend that readers check their credit utilizing one of the three bureaus via   Since The Mortgage Porter is currently published 3x per year, I rotate the bureau and in this issue, I suggest you check your credit utilizing your annual free Equifax report.

If you’re a Washington State homeowner (present or future) who would like to be added to my mailing list, please contact me with your name and full address.

Gimme Five! Comparing Today’s 5 Year ARM to a 30 Year Fixed


There is currently about a 0.75% difference in rate between the conforming 30 year fixed and 5/1 ARM and 0.625% in rate with conforming-jumbo loans.  Is that enough for you to opt for an adjustable rate mortgage?

Beyond the obvious question: "how long do you plan on retaining the mortgage or staying in your home?"   Here are some other stats to consider based on rates I quoted Friday morning using a purchase of $500,000 with a loan amount of $400,000.   The closing costs on both loans are identical.

30 year fixed at 5.75% (APR 5.902%) has a principal and interest payment of $2,334.

5/1 ARM at 5.000% (APR 6.759%) has a principal and interest payment of $2,147.  This is a monthly savings of $187.

The 5/1 ARM is fixed for 60 months and will then the rate is re-calculated.   The 5/1 used in this scenario is a 5/1 LIBOR with a margin of 2.25% and caps of 5/2/5.   For now, lets review your savings over the 60 month period.

The 5/1 ARM will save $11,220 over the 30 year in five years in payment alone. 

30 year fixed at 5 years has paid $28,951 towards principal and has an estimated balance of $371,049.   $111,106 has been paid towards interest (no benefit towards your prinicpal, however it may be a tax benefit).

5/1 ARM at 60 months has paid $32,663 towards principal and has an estimated remaining balance of $367,337.   $96,228 has been paid towards interest.

Over a five year period, the net (interest) savings of the 5/1 ARM over the 30 year fixed assuming you do not make any additional payments towards principal is $14,878.

So what happens if someone decides to select a 5/1 ARM and 60 months later, they’re keeping the home?  They can refinance or not based on what the current market and what their finacial plans are.  The monthly savings over 60 months is plenty to cover the typical cost of a refinance ($2000-$2500) assuming rates are not favorable enough to opt for a "no cost refi".

If you decide to retain the mortgage, you will add the margin of 2.25% to the current 1 Year LIBOR rate when your mortgage is adusting.  (As of today, the 1 Year LIBOR is around 3.067%).   Your mortgage is reamortized based on the remaining term (25 years at the first adjustment).   The caps with this particular ARM are 5/2/5 meaning that the highest your rate can adjust is to a steep 10% and the lowest your rate will be at the first adjustment is 2.25%.   That’s a huge range and whatever your rate will be depends entirely on LIBOR.   Some 5 year ARMS offer caps of 2/2/6 which would limit the first adjustment to 2%–the initial rate is typically slightly higher.   Do learn exactly what your cap, margin and index are before you accept any adjustable rate mortgage.

I suggest considering the following:

What is your risk tolerance?  Will having a mortgage with the potential to adjust in 5 years give you a rash or cause you to lose sleep at night? 

How long do you plan on staying in the home or retaining the mortgage?  If you have a tendancy to refinance when rates improve or if this is a home (such as a starter home) where you may not keep it for 5 years, you may want to consider the ARM. 

Picture your life and where you and your family may be five years from now.   Is your income stable or growing?  Do you have retirement in your sights?

How disiplined are you?  $187 per month could make an impact on paying off non-tax preferred debt, paying down principal or building your savings.  Pay yourself the $187 per month in an interest bearing account at 3% and you’ll have $12,000 more in 60 months in addition to the other savings.

Regardless of what program you select for your mortgage…the choice is yours and it is your responsibility to learn as much as you can about the program–ask questions! 

Do you have an existing mortgage you’re unsure of?  Has your loan originator left the mortgage industry?  I’m happy to help Washington State home owners with their mortgage needs–including reviewing your existing financing, such as ARMS.  My mortgage adoption program does not require any refinancing or new mortgage.

You’ve Got ’til Midnight to File Your Taxes

The only Post Office in the Seattle area opened until midnight is located at 15250 32nd Avenue South (map).   And if you need to file an extension, you can find that here.

Hat Tip to West Seattle Blog.

The Mortgage Porter Quarterly


The first issue for 2008 of The Mortgage Porter Quarterly is being mailed starting this weekend. 

This snail-mail newsletter features:

  • Your Credit: Tips to Score Big
  • Last Minute Tax Changes for 2007
  • What’s New with Rhonda (a true read if you’re having troubles falling asleep)
  • My (and my hubby’s) favorite recipe for Huevos Rancheros (pictured above).  YES…I made that. 
  • My Mortgage Adoption Campaign
  • Credit Check Up (this issue, I recommend visiting and pulling your free copy from Experian.  (You’re allowed 1 free copy from each bureau annually).
  • And much, much more.

Would you like to be on my snail-mail list and receive The Mortgage Porter Quarterly? 

Confession:  it’s really not a quarterly.  I only mail this out three times a year (currently).  I didn’t want to call my newsletter "The Mortgage Porter Thirdly".

Join the Mortgage Porter Rate Watch

UPDATE:  Sadly the service that I used to provide this (Mortgage Coach) no longer offers this program. HOWEVER, Mortgage Master Service Corporation has added a new program which watch mortgage rates and email an alert once we have reached your target rate.  I still adopt mortgages and help Washington home owners with refinances…I’m just not able to provide the report. 

A few months ago, I wrote about adopting mortgages for borrowers who have adjustable rate mortgages and who do not have a Mortgage Professional to assist them.  If you have not heard from your Loan Originator since your transaction closed, or even within the last few months, they either

  1. Are no longer in the mortgage industry originating mortgages, or
  2. Do not have a “post closing” system designed to help home owners stay informed about their mortgage, and
  3. Only care about originating and not what happens to borrowers afterwards.

Perhaps your Loan Originator has you on their mailing and email list and you’re just not that impressed with the level of service they offered you…you want to make a move.

Consider having your mortgage adopted by a Mortgage Professional you trust.  I personally enjoy adopting mortgages for Washington State families.   It’s a FREE service and more often than not, the current rate is fine for the family (no refinance is required).   At least the home owner knows that they have a Mortgage Professional who is watching out for them.   Refinancing a mortgage, when it makes sense, can save hundreds of dollars each month that can either be invested into savings, used to pay off debts or applied towards the principal of the new mortgage to shorten the term and reduce interest.  Bottom line, it saves home owners money and if the home owner is going to retain the mortgage long enough to break even, it’s almost crazy not to do it.   (It’s also crazy to refinance when their is no financial benefit).

I can tell many home owners do not have relationships with their loan originators because of the amount of rate quote request I receive from all over the country.  Currently, I can only help people with mortgages in Washington State (if you’re outside of Washington, I’m happy to refer you to fellow Mortgage Professionals).   

If you would like me to adopt your mortgage and add you to my rate watch, send me the following information:

  • Your Full Legal Name(s)
  • Property address
  • Estimated value of the property
  • Current mortgage balance(s)
  • Estimated credit score
  • Your email address/phone number (email is an excellent way for me to send a rate alert should mortgage interest rates drop)
  • How long you plan on keeping the property
  • Do you have taxes and insurance included in your mortgage payment

I will review your mortgage and send you a Personalized Mortgage Plan includGetthumbnailcak0vwpfing a  Total Cost Analysis which compares your existing mortgage to 3 other mortgage scenarios.   I just emailed one to a homeowner in Snoqualmie this morning showing him that he should not refinance at this time.

Again, there is no cost to you and no refinance required.  I’m happy to adopt your mortgage!

Which Debts to Pay Off?

One of my clients who bought a home a few years ago contacted me wanting advice on which debts they should pay off now that they have received a bonus.  I welcome opportunities like this!   Their priorities are to:
  1. Eliminate debt while
  2. Maximizing their credit scores
Here are the debts:
  • Credit Union (motorcycle) – $5000.00 @ $185.00 per month (see #1 below)
  • Bank – $2115.83 @ $37.21 per month (see #9 below)
  • Bank – $5010.65 @ $165.00 per month (see #10 below)
  • Credit Card – $2278.74 @ $66.00 per month (see #7 below)
  • Credit Card – $1937.22 @ $44.00 per month (see #8)
  • Bank – $877.45 @ $15.68 per month (see #6 below)
  • Bank – $870.92 @ $27.00 per month (see #5 below)

They have received a bonus in the amount of $8,600 and expect a income tax return in the amount of $4,500.   They may eventually sell the motorcycle for around $4,000.   And…in May it sounds like they will be receiving a check compliments of the Economic Stimulus Package (they can put that in their rainy day fund).

If their goals are to stay in their current home and just get rid of this debt, here is what I would recommend for a strategy:

  1. Pay off the bike.   This leaves $1600 of the bonus and free’s $185 per month.
  2. Put the $1600 into a savings account that they don’t touch.  This is the beginning of their emergency fund (which they currently don’t have).
  3. Put the bike up for sale.  Until it does…
  4. Put 10% of your gross income into your emergency fund…pay yourself first (before you go out to dinners, movies, etc.)…can’t do 10%, get in the habit of doing 5%.   You should have an emergency fund of no less than 3 months of your mortgage payment (for your first goal).
  5. Pay $185 (that was once paid towards the bike) plus the $27 all ready paid towards the bottom debt for $870 for a total of $212.  This debt will gone in just 4-5 months!  YEAH.   Cut up this card, close this account.  Ya don’t need it.
  6. Now you can apply $212 plus $15 for a total of $227 towards the next small debt and this will be gone in 4-5 months.  You don’t need this debt either…close it.
  7. You probably have your tax refund now of $4500.  Pay off the credit card for $2278 and put the remaining $1800 into your emergency fund.   NOTE:  You now have $3400 in an emergency fund plus your monthly contributions!  And you have also eliminated $293 per month in debt!  CONGRATULATIONS…
  8. Has the bike sold?  If so, pay off credit card with balance of $1937 for $44 per month.  Now you’re saving $337 per month to apply towards the debts.   Go ahead and put the difference between the credit card debt pay off and the bike proceeds into your emergency account.   YOU’VE ELIMINATED 5 DEBTS!
  9. Now take the $337 you’re saving plus the $37 you’re all ready paying = applying $374 towards bank debt in the amount of $2115 per month.  This debt should be gone in roughly 6 months.
  10. Take $374 plus $165 (that you’re all ready paying) and apply $539 towards your last debt in the amount of $5010…this one will be gone in 9 months!

Did this take a while to accomplish?  Yes.  Did it take you a while to create your debts?  Yes.  I think it’s easier to approach debts if you hit them one at a time starting with the smallest debt that has the largest payment.   You’ll feel rewarded as you accomplish paying debt after debt off.   

For the purposes of having a good credit score, you’ll want to maintain 3 accounts in addition to your mortgage.  The older the account is (in good standing) the more weight it carries with the credit scoring system.  If you have a car payment and a mortgage, pick two credit cards that are older with the best terms and keep them open with balances below 30% of the credit limit.  Close and chop up the others.

Now you can invest the $500 a month you were spending on debt into your retirement accounts or maybe start a 529 account for your children.

Good luck!

NOTE:  This strategy is specifically designed for one of my clients.  This may or may not work for you depending on what your goals and needs are.  Restructuring debt by refinancing is also an option if the home owner qualifies and their is enough home equity to do so. Please consult with your Mortgage Professional and financial advisors.

YOU Magazine and MMG Weekly Now Available

January’s issue of YOU Magazine is now available featuring 7 ways to make the New Year great including:

As if this wasn’t enough, this week’s Mortgage Market Guide Weekly is an absolute must read covering what’s going on in the mortgage industry and why if the Fed cuts rates, mortgage rates likely increase.    This issue of MMG Weekly also addresses how to freeze your credit in the event of ID theft and what’s coming up on the economic calendar.   

Mortgage Market Guide and YOU Magazine are just a few examples of the tools I invest in for my mortgage practice as my commitment to you.   It’s very important to me that my clients fully understand mortgages: the largest financial obligation on the most significant investment they may have in their lifetime.