If you’re paying off student loans, you know you’re not the only one. But, did you know that student loan debt hit a record-breaking high of $1.41 trillion in 2019? In 2018, the average balance for the millions of people who have student loans was $35,830. Individuals with student debt find themselves in a precarious position when it comes to making major purchases that require financing, such as a house. Like you, they are asking themselves, “How can I possibly get a mortgage when I have tens of thousands of dollars in student debt?”
Don’t despair. The good news is that there are things you can do to increase your chances.
Lenders use your debt-to-income (DTI) ratio as one of the financial indicators of how likely it is that you will repay a loan. Here’s how to calculate your Consumer DTI ratio:
· Add up the amount of all of your monthly debt payments, including car payments, credit card payments, other loan payments, and student loan payments
· Divide your monthly take-home pay amount by the total of your monthly debt payments, and then multiply that fraction by 100 to translate the fraction into a percentage
For example, if your monthly debt payments total $600 and your monthly take-home pay is $3,000, then your consumer DTI is 20 percent. That indicates that you use 20 percent of your take-home pay to pay your monthly debt. But, consider that you’ll be adding a mortgage payment to the equation. If you thought your mortgage payment would be $1,000 per month, your Total DTI ratio would be 53.
Mortgage lenders look at a variety of factors when approving a mortgage, but it’s safe to say that a DTI ratio of 53 won’t help you get a loan. Three things will help you to manage your DT ratio:
1. Pay off loans and other debts such as balances on credit cards
2. Increase your income
3. Get pre-approved for a mortgage to manage your expectations about the house you will buy
Some home buyers start looking at homes before they’ve spoken to a real estate agent or a loan officer. That’s not a good strategy. You need to find professionals in these fields who want to and know how to help you overcome your student debt issue. If you start your house search before you hire the right professionals, you’ll often find yourself looking at homes you might not be able to afford.
Becoming pre-approved for a mortgage is even more critical if you have student debt. Based on your Consumer DTI ratio, your lender can help you to understand the mortgage loan options available to you. You can then identify a reasonable mortgage payment to arrive at your Total DTI.
Your real estate agent can help you identify the homes that come as close as possible to meeting your requirements while staying within the price range you can afford.
Lenders frequently use FICO credit scores when it comes to evaluating loan applications. Credit bureaus such as Equifax, TransUnion, and Experian track information on your credit history and calculate your FICO score. The score reflects the level of risk you present to a lender.
Good credit scores will help you to get a loan, but they’re also used to decide the interest rate lenders will charge. The higher your credit scores, the lower your interest rate. Therefore, managing your credit scores is very important to you as a home buyer. Here are things you can do to improve your scores:
· Don’t use all of your available credit. Your credit utilization rate will affect your credit scores. If you have credit cards that add up to a $15,000 credit limit, and you are carrying a balance of $10,000, your credit utilization rate is 66 percent. Your goal should be to reduce your credit utilization rate as much as possible before you apply for a mortgage.
· Don’t close credit lines. If you have old credit cards that you aren’t using, it’s best to leave them open. That will increase the length of your credit history and reduce your credit utilization rate. Closing unused credit lines will often hurt your credit score.
· Don’t make late payments. Lenders want to work with a borrower who pays their bills on time.
· Avoid opening new lines of credit. If possible, work with the credit lines you have open before you start looking for a house. When creditors make inquiries about opening a line of credit for you, it can hurt your score. And, once you have applied for a mortgage, opening new lines of credit may trigger a reevaluation of your application.
If you can’t pay down your credit card debt before applying for a mortgage, consider consolidating all of your outstanding balances into one personal loan. Personal loans typically carry a much lower interest rate than your credit cards.
Once you consolidate your credit card balances into a personal loan, you’ll have the same amount of debt, but your monthly payments should be much lower. In most situations, this will improve your credit score because you’ll have one payment at a fixed interest rate for a specific amount of time. You will also lower your credit utilization rate.
If you take this route, however, be careful to pay off new charges to your credit cards in full each month. If you want to qualify for a mortgage with the most favorable terms, you may need to change your spending habits.
If you have student debt, you may find it challenging to save for a down payment. In today’s environment, it’s no longer necessary to have a 20 percent down payment. According to research conducted by the Urban Institute, 2,527 down payment assistance programs exist nationwide.
For example, a USDA loan is available for people buying in an approved location, but it doesn’t need to be a rural location. You may be surprised to learn that 97 percent of the U.S. is in an approved location. A USDA loan will finance 100 percent of a home’s sales price, usually at a lower interest rate than a conventional loan.
Fannie Mae, or the Federal National Mortgage Association, is a government-sponsored organization that provides mortgages to moderate to low-income borrowers. In 2017, Fannie Mae introduced new policies to help home buyers with student debt to qualify for a mortgage loan. Those policies include:
· Student Loan Cash-Out Refinance. If you already own a home, you may be able to refinance the mortgage at a lower rate and pay off some of your student debt at the same time.
· Excluding Debt Others Pay. If you have student loans, credit card balances, or other debt that someone else is paying, loan officers will often include that debt in calculating your DTI ratio. Fannie Mae will now exclude that debt from your DTI ratio calculation. For example, if your parents are paying your student loans, Fannie Mae won’t consider those loans your responsibility.
· Changing the Student Loan Payment Calculation. Lenders will now consider what you’re paying each month if you’re on an Income-Driven Repayment Plan (IDR). Before the change, lenders needed to account for the entire amount of your debt in your DTI ratio.
As you can see, there are things you can do to make getting a mortgage loan a reality even if you have student debt. Working with the right professionals will help you reach that goal. Very often, a real estate agent experienced in working with home buyers who have student debt can refer you to lending professionals who are also experts in that area.
LemonBrew can help you find a skilled real estate agent who will provide you with outstanding service. Learn more about how it works at LemonBrew.com.