Student loan debt is in the news daily and it’s no secret it can slow your opportunities for home ownership, if you let it. There are lending options that allow alternatives and it’s worth a look to find out when you might qualify even if you have to wait it out a few months longer.
How can buyers overcome the hurdles of this issue? You need to know what the lenders focus on in helping you to obtain a mortgage. The debt to income ratio is a big contributing factor in the decision making process for a lender. They will need to know your percentage of monthly income spent on any debt payments, including mortgages, student loans, auto loans, minimum credit card payments and any child support if that is a factor.
As an example: If Tom and Mary earn a total of $5000 a month with both incomes, and their total debt payments are $1600 a month, then their debt to income ratio is 32%. ($1600 divided by $5000). This ratio is one factor that lenders use to decide if you are able to afford a mortgage payment.
In general, mortgage lenders prefer a debt to income ratio of 36% or less, however, there are exceptions to this rule depending on the type of mortgage you apply for and some lenders will approve a higher percentage of debt to income if other factors are in play.
Before you apply for a mortgage, you will want to have an idea of your credit score. Most lenders use the FICO credit score but take the median of your 3 credit bureau reports into consideration.
Some of our lenders have a great tool that can show you how you can upgrade your credit simply by paying down credit cards, or making changes that will allow you within weeks or months to really make a huge impact on your credit scores. We know lenders in our market who can assist you with this!
Whether or not the student loan debt is included in the debt to income (DTI) will depend on the loan product and whether your student loan payments are current or have been deferred.
Most Conventional and VA loans automatically include student loan debt in the DTI ratio, even if payments are deferred.
FHA loans will likely include the payments unless they have been deferred for at least 12 months, but you need to speak to a lender to get the current policy as this can change over time.
Three ways to fix this issue…
Three basic approaches to overcome this DTI difficulty are to Reduce your Debt, Increase your Income, or, Decrease the anticipated mortgage payment.
To Reduce Debt, some lenders will remove an installment or closed-end loan from the DTI, like a car payment, if the loan is likely to be paid off within 10 payments or less. So if you can pay off a loan enough to reduce the balance to 10 or fewer payments you can benefit your DTI.
Paying off any credit card debt helps as well, but the 10 month rule will not apply since the credit cards are revolving or open ended credit which is not the same as an auto loan. Be sure to check with your lender BEFORE closing any accounts as, this may also hurt your credit in the short term. Sometimes it is best to leave the credit card open as this shows you use them responsibly, and closing them has actually hurt some of my buyers’ credit for the next few months.
Another strategy for improving DTI is to pay off the student loan with a private loan, perhaps you have someone in your family who can help with this, and get a lower interest rate or a longer repayment term. The private loan is still considered a loan and must be disclosed to your mortgage lender.
To Move Debt Around, buyers who are married and don’t live in a community property state might be able to overcome the DTI hurdle by reconfiguring the income and liabilities. Refinancing an auto loan in the name of a party who doesn’t have the income qualifying for a purchase is one way to handle this. The spouse earning the income then can apply for a mortgage without the debt-burdened spouse.
To Increase Income, a general rule of thumb is at least 6 months to 2 years of documented income could be included in the DTI ratio, but college history and new jobs in different fields are not the drawback they once were especially if they come with higher salaries. New income might be considered as soon as you have 30 days of paystub history or, have passed the initial probationary hiring hurdles.
Different standard/rules can apply to commissions, bonuses and self employment or hobby business.
Qualifying for a $150,000 home is not the same as qualifying for a $150,000 condo because the tax amounts and HOA or Home Owners Association fees must be taken into consideration as part of the DTI so that is comparing apples to oranges and you need to know that as well before you make a move. You might look at buying a home in a lower property tax neighborhood, pay some up front fees to decrease the Mortgage Interest rate or buy down the MI rate by paying extra discount points up front. This helps to lower the monthly payment enough to really help some buyers. You always want to consider resale before you purchase. We can help you with that as well.
If you are still laboring under the impression that you need a 20% downpayment to get into a home, know that the rules have changed, there are many new lender options for which you might qualify and it is worth the time and effort to find out how you can start building equity for yourself and your future.
Give us a call to have your questions answered….