Can You Use a Personal Loan for a Down Payment?

If you’re buying a standard home and need a traditional mortgage, your down payment requirement can typically range from 3% to 20%, depending on the lender and the situation.

While it may be tempting to use a personal loan to cover this amount, you’ll have a hard time convincing the mortgage lender to accept it. The primary reason for this is that a personal loan increases your debt-to-income ratio (DTI), which can hurt your chances of getting approved.

Also, it could be a sign that you can’t manage your money well, which can be a red flag for mortgage lenders.

Legitimate uses for a personal loan include consolidating debt, paying medical expenses, starting a business, renovating your home and financing a large expense.

Other Ways to Pay for a House

If you’re having a hard time finding what you need to finance a home, there are plenty of options, including loans, programs and grants, that can make it easier to achieve your goal.

If you’re a veteran or buy a home in a rural area, for instance, you may be able to get a loan with no money down through the U.S. Department of Veterans Affairs or the U.S. Department of Agriculture. Some conventional mortgage lenders may accept down payments as low as 3%, and the Federal Housing Administration offers loans with a 3.5% down payment.

If your income is considered low or moderate, you may qualify for a grant from the nonprofit National Homebuyers Fund. The grant can be worth up to 5% of your loan amount to help you cover the down payment, and you never have to pay it back. You can also check to see if there are down payment assistance programs in your state.

How a Personal Loan Impacts Credit

While getting a personal loan to buy a small house or mobile home can be a good option, it’s important to understand how it might affect your credit.

In general, applying for any type of credit can knock a few points off your credit score when the lender runs what’s called a hard inquiry on your credit report. That said, inquiries generally don’t have a lasting impact on your scores.

The primary way a personal loan affects your credit is how you handle your monthly payments. If you pay your bill on time every month, the positive payment activity can improve your credit scores. On the flip side, missing a payment or defaulting on the loan can wreck your credit, even if you get to keep the home.

To help you stay on track with loan payments, consider setting up automatic payments. Some lenders may even offer an interest rate discount if you do this. Another option is to set up alerts to remind you each month when your payment is due.

Check Your Credit Before Applying for a Loan

Regardless of which loan you’re planning to use to buy your home, it’s important to make sure your credit is in good enough shape to qualify for favorable terms. Check your credit score to know where you stand, and look for any areas you might need to address before you apply.

You may be able to qualify for a loan with a relatively low credit score. But the higher your score, the better your chances of getting a lower interest rate. And as with any loan, make sure you shop around and compare several lenders to ensure you get the best rate available.

Source: Experian.com