How to Get a USDA Loan with Bad Credit

It’s natural to ask: can I buy a home with bad credit? Thankfully, having less-than-desirable credit doesn’t automatically shut you out of the home financing process. Even with a low credit score, you still have options, including a USDA home loan.

USDA loans, by design, make homeownership more accessible to Americans. Not only can borrowers have one with no down payment, but USDA loans come with looser credit standards and income requirements compared to other types of mortgage loans, which makes them an ideal choice for buyers with imperfect credit scores. That doesn’t necessarily mean you can get a USDA loan with a 500 credit score, but the approval threshold may be lower than you think.

This article explores how your credit can impact USDA loan approval, how to get a USDA loan with bad credit, and ways to improve your credit score.

Understanding Your Credit Score

A credit score is essentially an assessment tool – a grade of how well you’ve managed and paid off your past debts, as well as how you’re tackling any current debt. FICO credit scores range from 300 to 850. The higher your score, the greater your chances of approval for a USDA loan and at a more desirable interest rate.

For a mortgage lender, your score represents your ability to repay the money they lend. A higher score indicates you’ve paid your bills on time, have low debt levels, and will more than likely fulfill your debt obligations. While lower scores don’t necessarily mean the opposite, they do give lenders reason to pause and consider an applicant more stringently.

Keep in mind that every lender sets their own criteria for evaluating borrower credit. While one lender may only consider borrowers with 720 scores and above, another lender may accept credit scores as low as 580 or even less.

USDA Loan Credit Benchmarks

The USDA does not set a minimum credit score requirement. However, most USDA-participating lenders prefer a credit score of at least 640, which is the lowest score allowed by the USDA's Guaranteed Underwriting System (GUS). GUS is a computerized tool that helps lenders assess credit risk and automate the evaluation process.

“Applicants with scores lower than 640 may still qualify, but they usually need to go through manual underwriting,” explains Dennis Shirshikov, a professor of economics and finance with City University of New York/Queens College.

Aside from your score, USDA lenders also want to see a strong payment and employment history, as this indicates a greater likelihood of repaying your loan. They also carefully review your total debt-to-income (DTI) ratio, which compares your major monthly debts to your gross monthly income.

“The lender will look closely at both your credit score and credit reports to see how reliable you are with money,” says Martin Boonzaaijer, CEO of The Trusted Home Buyer. “Your credit score gives a quick snapshot of your overall creditworthiness, while your credit reports dive deeper into your history, showing if you’ve missed payments, had any bankruptcies, or if there is anything unusual that could raise a red flag. They want to see a responsible approach to debt management.”

Alex MacLagan, senior loan officer with MacLagan Home Loans, notes that your lender will also look at public records like bankruptcies, collections, and judgments; credit utilization, which indicates how much of your available credit you are using; the types of credit accounts in your file; and the length of your credit history with those accounts.

“Making on-time payments is especially important here – it matters more than you’d think,” MacLagan says. “For example, having a 650 credit score with a clean, punctual history of payments will usually perform better in USDA underwriting than having a 670 score with one recent late payment.”

Building Credit for a USDA Loan

Worried that your credit score will hurt your chances of getting a USDA loan? You can take steps well before applying to boost your credit as well as prevent your score from dropping.

How to Improve Credit

To up your score, follow these best practices:

• Pay down your credit cards to under 30% of the credit limit – ideally under 10%. “You want to bring down your credit utilization ratio below 30% of your total available credit,” advises Shirshikov.
• Work to pay off your debts with the highest interest rates, which can enhance your overall creditworthiness.
• Make all debt and bill payments on time for at least 12 months, with no late or missed payments. You can ensure that your bills are paid punctually by setting up automatic payments through your bank.
• Review your three free credit reports carefully and dispute any inaccuracies or errors you spot.
• Become an authorized user on a family member’s well-managed credit card.
• Keep good records of utility and rent payments if you lack traditional credit.
• Address any collections issues. If you have an account that has been sent to collections, pay off the outstanding bill or contact the creditor to set up a payment plan. Collections can seriously hurt your credit score and ability to qualify for USDA financing.

Things to Avoid

You can also improve your score, or at least prevent it from dropping, by following these proven tips:

• Avoid late payments. Payment history is the single biggest influencing factor in your credit score, and just one late payment could derail your homebuying plans.
• Don't apply for any new credit cards, loans, or lines of credit. Every time you do, it results in a hard credit pull that decreases your score for up to 12 months or longer. While each hard inquiry will probably only drop your score by five points or less, it can make a big difference when applying for a USDA loan. Keep in mind that a hard credit pull will also remain on your credit reports for two years.
• Bypass any large purchases, especially using credit cards. That means postponing any major transactions like buying a car or charging to enjoy an elaborate vacation prior to applying for a home loan.
• Don’t max out your credit cards. High credit utilization will tank your score quickly.
• Don’t switch jobs. “Employment stability is important here. If you are thinking about working for someone else, it’s better to wait until after you're approved for a USDA loan, as lenders like to see a steady work history,” Boonzaaijer suggests.
• Think twice before paying off old collections right before applying unless your lender recommends it. This can sometimes temporarily lower your score.
• Say no to co-signing on anyone else’s loan or debt. Cosigning a loan adds to your DTI ratio and appears on your credit report, which can lower your credit score and reduce or block your USDA loan eligibility. Even if payments are made on time, lenders still see it as your financial responsibility.

USDA Loans and Bad Credit: Not a Problem

With looser credit and income standards, no down payment requirements, and often, lower closing costs, USDA loans can be a great option for borrowers with less-than-ideal credit scores.

“But instead of rushing through this process, it’s always a good idea to take the time necessary to boost your credit, if needed, which will improve your odds of getting approved,” says Shirshikov. “If you are having serious credit trouble, a credit counseling or financial planning organization could help you find ways to better manage your money and get your debts under control before you apply for a home loan.”

Partnering with a reputable USDA lender can also make a big difference, MacLagan notes.

“The right lender can help you build a custom credit action plan and guide you through the timeline required so that you’re not guessing on what’s required,” he says. “With the right help, you may even be able to improve your score by 30 points within 30 days.”

Ready to start? Begin your USDA loan journey today!