Refinancing Your Mortgage: Credit Scores & Loan Types to KnowVersion
Refinancing your mortgage can be a smart way to lower your monthly payment, secure a better interest rate, or tap into your home’s equity — but your credit score plays a big role in determining your eligibility and loan terms. If you’re looking to refinance your mortgage loan, you’ll want to be prepared to meet your lender's criteria and educate yourself about your FICO® Scores. Read on to learn more about FICO Scores and home refinancing, along with ways to refinance with a lower credit score.
FICO® Scores and Home Refinancing
Each FICO® score is calculated using the following five factors:
- Payment history
- Amount of debt
- Length of credit history
- New credit accounts
- Credit mix
When you're looking to refinance your mortgage, lenders will likely pull your credit reports and scores from each of the three major credit bureaus: Equifax, Experian, and TransUnion. However, identical FICO® Score versions aren’t used by all three bureaus. It's likely that the following FICO Score versions will be pulled for mortgage loan applicants:
- Equifax – FICO® Score 5
- Experian – FICO® Score 2
- TransUnion – FICO® Score 4
The FICO® Score model has been updated periodically over the years to reflect changing consumer credit behaviors. This means your scores could differ across all three bureaus depending on which version is used. In addition, each credit bureau may have different information on file about you, which can cause your FICO Scores to differ by bureau.
FHA and VA loans: Flexible credit options for refinancing
Lenders commonly use FICO® Scores, but it’s important to remember that there are different FICO Score versions and the specific version a lender uses could vary.
Additionally, research whether you are eligible for FHA or VA loans. The Federal Housing Administration (FHA) may offer more flexible credit requirements than other conventional loans. If you're a veteran or active-duty military, you may be eligible for a VA loan. VA Loans are guaranteed by the Department of Veterans Affairs (VA).
These government-insured programs often have more lenient credit score requirements. However, these loans have specific eligibility requirements. There might be income or loan limits, so make sure you qualify before applying.
Credit Score Requirements for Cash-Out Refinancing
Credit score requirements can vary for cash-out refinancing. Exact requirements can also vary based on your debt-to-income ratio (DTI), equity in your home, and other factors.
Differences between cash-out and rate-and-term refinancing
When you’re cash-out refinancing, you borrow more than you currently owe on your mortgage, receiving the difference in cash. But with rate-and-term refinancing, you refinance your existing mortgage for a new loan. Then, you end up with a different interest rate, loan term, or both. The goal of rate-and-term is usually to lower your monthly payments or shorten your loan term, rather than getting cash on hand quickly.
Credit score requirements for conventional vs. FHA and VA loans
Conventional loans are not government-backed, so lenders have stricter requirements, including higher credit scores. However, FHA loans have insurance from the Federal Housing Administration, so these loans could be more accessible. And because the Department of Veterans Affairs guarantees VA loans, there’s often no minimum credit score requirement set by the VA, though lenders usually have preferences.
Risks and benefits of cash-out refinancing with a lower credit score
Cash-out refinancing comes with various benefits. Cash-out refinancing can provide access to funds for your various needs, especially in emergencies. You can also consolidate high-interest debt into a lower-interest loan, potentially saving money. However, there could also be several drawbacks, such as the risk of foreclosure if you can’t make the loan payments. It’s important to consider the benefits and risks when deciding if cash-out refinancing is right for you.
Ways to Refinance with a Lower Credit Score
Refinancing with a lower credit score can be challenging, but it's certainly not impossible. Here are some ways you can consider going about it:
- Government-backed loans – FHA loans often allow for lower credit scores and higher debt-to-income ratios.
- USDA Streamlined Assist program – If you currently have a USDA loan, this program offers a simplified refinance process with more lenient credit requirements and no appraisal or debt-to-income ratio verification needed in most cases.
Consider a non-occupying co-signer – If you have a family member or friend who is willing to help and doesn’t live with you, they may be willing to co-sign your loan.
Refinancing your home can be a valuable financial strategy, but understanding credit score requirements and available loan options is crucial. While conventional loans require higher scores, government-backed programs like FHA and VA loans offer more flexible alternatives for borrowers with lower credit. By researching your options and preparing thoroughly, you'll be better positioned to secure favorable refinancing terms that meet your financial goals.
