Does a Higher Down Payment Compensate For a Low Credit Score?

A reader reacts to my post titled “Why Lenders Care About Credit Scores” and sends this excellent question:

How much more of a positive effect does putting a greater percentage down on the home purchase vs. a low credit score.

For example, if I have a credit score of 620, but put down 20% down, how much more “pleasing” is this to a lender vs. if I have a credit score of 750, but put 0% down (or only 5%).

Again, this is an excellent question.

In a regular conventional loan, a higher down payment significantly improves your chances of obtaining an approval. So, if you had a 640 score and put 20% down, you’re more likely to get an approval than with only 5% down. So, in that sense a higher down payment is more “pleasing” to the lender. In the case where the credit score is already very high, then the down payment doesn’t play as much of a role. Meaning, whether you put 5% down or 20% down you will most likely get an approval in either case.

Going back to your question, when you have a score as low as 620, putting a higher down payment will help; but it’s still harder to get an approval compared to putting 5% down with a 740+ score. While the down payment helps, it still does not completely mitigate the possibility that the borrower has had serious credit issues in the past. Having said that putting more than 35% down changes everything. Lenders will most likely lend at any reasonable score with so much down as long as other factors are acceptable.

In terms of loan interest rate the new guidelines stipulate rates based solely on the borrowers credit score. So, whether you put 5% down or 20% down your interest rates will be higher if you have a score less than 680.

Bear in mind these rules apply to conventional loans. If you do the FHA program then these rules have no bearing. The FHA program is not credit score driven and hence will not factor in your score to the same extent as conventional. Also, FHA assumes you will not put any money down (it’s a 97% program and 3% to come from gifts). The approval is based on an overall picture involving your income/employment, liquid cash reserves, borrower credit and property type.

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