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Bad Credit Mortgage Lenders - Bad Idea for Home Buyers

by Brandon Cornett - 11/2/08

If you try to find a bad credit mortgage lender in 2009, you are going to have a hard time finding one. A few years ago, there were plenty of lenders willing to give mortgage loans to people with low credit scores. But those days are long gone ... as well they should be.

I'll explain why I think this type of lending practice is a bad idea. But first, let's go over some terminology related to this subject. A bad credit mortgage lender is any bank or financial institution that offers home loans to people with bad credit scores (i.e., scores that are less than the national average, and less than ideal for lenders).

You'll hear the word "subprime" used interchangeably as well. That's the industry term for a borrower who is considered a high risk by the lender, as a result of the borrower's financial history, credit score, debt-to-income ratio and other factors. So when a mortgage lender gives a loan to people with a bad credit history, it's referred to as a subprime loan.

The Problem With Bad Credit Lenders

I have been saying for a long time (and a lot of economists are with me on this) that giving mortgage loans to people with bad credit is a dangerous lending practice.

If you happen to be one of those people with credit problems, you might think that I'm against you in some way. That is not the case. But I am against any kind of financial practice that, when multiplied thousands of times over, causes economic turmoil for our country. And that's exactly what the bad credit mortgage lenders did during the 1990s.

Here's the problem I have with the way mortgage loans are given to people in bad credit situations. When you approach a lender in this kind of situation, they will view you as a risk. Because whether you like it or not, that's what your credit history says about you — it says that, for one reason or another, you have trouble handling your finances in the past. This is not my personal opinion, mind you. This is just the hard truth about how a lender will see you.

One of the fundamentals "laws" of the mortgage lending world is that borrowers who bring a higher amount of risk get charged a higher interest rate. Of course, the reverse is true as well. Borrowers with good credit (low risk) get rewarded with the best interest rates the lender can offer.

The Mortgage Landscape in 2009

As we know, a lot has happened to our economy since the bad credit lending boom of the 1990s and early 2000s. Our economy was pushed to the brink of collapse and is still on shaky ground. And this is the problem I have with the subprime mortgage lenders — they were the primary catalyst that caused our economic meltdown.

I've written a separate article on the history of the subprime crisis, so I won't belabor the point here. In a nutshell, I will say that these types of loans set people up for failure. There is high interest associated with these loans, but it is often minimized during the first few years in order to make them seem appealing / affordable to the borrower.

Bad credit mortgage lenders favored the adjustable rate mortgage for this very reason. They could charge a low "teaser" rate up front, and defer the high interest payments until later on. We know the rest of this story ... record-breaking numbers of foreclosures, bad loans sold all over the word, a full-scale economic crisis, financial institutions failing, etc.

As a result of this financial mess we are in, there aren't many subprime lenders left these days. Some have collapsed, and others have been bought out by other banks and transformed. So you might be asking, "Why are you spending so much time on bad credit lenders when they are practically extinct?" To which I would respond: "Because they'll be back." If there's anything we know about the economy, it's the concept of cycles and history repeating itself. So the next time we have a housing boom in this country, there will be plenty of mortgage lenders going after the bad credit segment of home buyers. And in doing so, they'll be planting the seeds for our next housing crisis.

A Message to People With Bad Credit

In closing, I would like to offer some advice for people with bad credit scores who plan to buy a home in the near future. Start improving your credit, and start right away. As a result of the mortgage crisis we have experienced, it's going to be a lot harder to qualify for a mortgage loan in 2009 and beyond. In fact, we are seeing this already. Home buyers are being required to have very good credit just to qualify for a mortgage loan. And if you want the lender to offer you their best interest rate on a home loan, you will need an even better credit score — probably upward of 730.

So if you are one of the many people in America with a bad credit score, start working on it now. You'll have a much easier time getting approved for a loan, and you'll get a better interest rate as well (and that means a small mortgage payment each month). To support you in this goal, we have launched a new blog that offers free credit advice to people who need it.

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Brandon Cornett is the creator of the Home Buying Institute. He created this section of the website to help people with bad credit get back on track. If you have a low credit score and are trying to improve, check out this related section of our website.