A sub
prime lender will offer you virtually any type of loan that a
conventional lender will offer, but you’ll pay a much higher
interest rate, as a risk premium. In other words, these lenders
consider people with low credit scores risky borrowers, because
they may have some poor payment history. Lenders like people who
pay all their bills on time, even though it is not at all
uncommon for people to occasionally miss a payment for one
reason or another. So, the sub prime, or non-conforming, or
niche, lender says, “We’ll take the risk, but we want to
make a lot more money, in order to do it.” Don't worry. You
can get it done, and improve your situation to refinance at a
better rate later.
Let’s
assume you have poor credit, and you want to purchase a house
for $100,000. You also have only five percent to put toward a
down payment. You bring a twofold problem to the lender – poor
credit and a very high loan-to-value, or LTV. You need to borrow
$95,000 on a $100,000 home, so your LTV is 95%. As a general
rule, lenders like purchasers to bring 10 to 20 percent of their
own money to the table, again lowering the risk for the lender;
they feel that the more money a borrower has in a deal, the less
likely she is to default. So, your mortgage professional will
find his best sub-prime lender, and take your application to
him.
Now, if
your debt-to-income ratio (amount you owe monthly vs. gross
income monthly) is 50% or less, and your credit score is above
500, you’ll likely get your $95,000 loan. Your interest rate,
however, will be between 10% and 12%, creating a very large
monthly mortgage payment. So, how are you going to win the
mortgage game, in this case? You have two options.
First, you
can improve the loan by reducing the LTV. In other words,
instead of taking a loan at 95% loan-to-value, you apply for a
first mortgage of $80,000 (80% LTV) and a second mortgage of
$15,000 (15% LTV). Here’s how you save money. Instead of
borrowing $95,000 at, let’s say, 12%, with a payment of $977,
not including taxes and insurance, you have a loan for $80,000
at 8.75%, for a payment of $629. Your second mortgage is at 13%,
with a monthly payment of $166. Now, your combined monthly
mortgage payments with two loans are $795, saving you $182
monthly over the first mortgage at 12% and $2,184 each year.
The second
option is to take an adjustable rate mortgage, which offers
great savings, just like conventional loans. If you take a
2-year ARM, which sub prime lenders offer, you might be able to
get a rate of 7% or 8%, instead of the 10% you’d likely get on
a 30-year fixed loan. You might also talk to your mortgage
professional about combining option one and two, and taking an
ARM on your first mortgage at 80% LTV and still taking a second
mortgage for $15,000. This could save you even more.
Get a free
mortgage course to learn more.
Mark
Barnes is an investment real estate and real estate finance
expert. Get his free mortgage finance course at http://www.winningthemortgagegame.com.
Mark is also the author of the new novel, The League, a
shocking, sports-related conspiracy. Learn more about his
suspense thriller at http://www.sportsnovels.com.
