Anything you think is in your way can be removed if you really want to be a homeowner. In fact, you’ll find out that some commonly perceived roadblocks are only myths, and you don’t need to delay your dreams anymore. If you are hesitant about moving forward, my new 5-week series is just for you — The 5 Most Common Home-Buying Myths BUSTED.
Myth: I can’t buy a home; I have too much student loan debt.
Truth: You can buy a home even with student loan debt, and there are even special types of loans for people like doctors who have way more school debt than most of us. Let’s find out how!
Is student loan debt holding you back from being a homeowner?
You’re not alone.
Many millennials are feeling the financial strain when it comes to buying a home, which may explain why the percentage of first-time buyers, who tend to be in this age group, has decreased.
Having a monthly $200 to $300 student loan payment does mean that there’s less money for a down payment, less for a future mortgage payment, and ultimately, less home you can afford.
However, don’t automatically assume you’re facing a roadblock to homeownership if you have this debt.
There are ways to work with lenders and assistance programs to make your first home purchase a reality — and even more affordable despite your student loans.
You may be wondering whether you should pay off your student loan debt before purchasing a home. That could be an option, but don’t make it your only one.
But you don’t have to delay for years until you become a homeowner, especially if you have substantial student loans. You’ll learn about some options that could help you make homeownership happen much sooner than you think!
And always remember to please consult with your own financial advisor to determine what is best for your situation.
How Lenders Look at Student Debt
Let’s get to the basics first. When you buy a home, a lender will look at your debt-to-income ratio or DTI.
It’s the amount of recurring debt you have monthly compared to your gross monthly income. In a lender’s eyes, your DIT is more important than your credit score or how much money you have for a down payment.
Why?
A lender needs to consider your recurring debt — such as a car loan, credit card payments, AND your student loan(s) — to determine if you can afford more debt with a monthly mortgage payment.
And that’s where your student loan debt, combined with a mortgage, can tip the scales in the DTI ratio, pushing it higher and ultimately affecting your ability to get approved by a lender.
Lenders prefer to see a low debt-to-income (DTI) ratio. Most financial experts recommend a DTI between 33-36% — it’s considered a good balance between debt and income.
Some lenders will consider a maximum debt-to-income (DTI) ratio of 43% or slightly higher. Your debt obligations can easily grow when you have a student loan, plus car payments, and credit card bills. (It’s not usual at all!) That’s why some lenders will carefully look at your income and assets to verify your ability to pay back the loan despite a higher DTI.
This higher DTI may make many of you uncomfortable, and we agree. Remember that what a lender says you can qualify for can be much higher than what you are comfortable spending each month!
However, most lenders like to stick to the 28/36 rule. And that’s where the 36% DTI from above comes into play.
- The 36% is the back-end ratio and equals your entire monthly housing costs expenses (principal, interest, mortgage insurance, property taxes) plus other debts (student loan, car loan, credit cards, etc) divided by your gross monthly income. It’s the DTI we explained above, and you don’t want to go above 36%.
- The 28% is part of the front-end ratio, which equals your monthly housing expenses (principal, interest, mortgage insurance, property taxes) divided by your gross monthly income. Your other recurring debt is not included. Again, a lender doesn’t want to see it above 28%.
Keep in mind, your DIT and the 28/36 rule have nothing to do with your credit score or how well you pay back your debt. It’s looking at the amount of debt obligation you currently have when compared to your income. Not whether you’ve been good at paying your student loan and other debt each month. (But keep doing that too!)
And that’s why it can be frustrating for many first-time buyers with student loan debt who have good credit scores.
How to Lower Your DTI
If you need to lower your monthly debt and obligations, start with your student loan lender(s). Here are some options to consider. Remember to always consult with your financial advisor before making any decisions.
- Graduated repayment plan – payments start low and rise every two years as your income rises.
- Loan consolidation – if you have more than one student loan, combine them into one with a lower interest rate.
- Lengthen your payback term – spread out your loan repayment over more years to lower your monthly obligation. This will increase your long-term interest payments, so carefully weigh the pros and cons of this strategy.
Examine all of your financial obligations and find other ways to lower your DTI:
- Consider boosting your monthly income with a side job … every little bit can help improve your cash flow and savings.
- See if you can negotiate a lower minimum monthly repayment requirement on your credit cards, especially if the current one is on the higher side. Some credit card companies are willing to work with you if you have a good credit score and payment history.
Shop Around for a Lender
When you have student loan debt, it’s essential to find a mortgage lender who is willing to work with you and offer programs tailored to borrowers like you.
You don’t want to work with lenders whose underwriters only consider your entire balance of student loan debt, rather than your current monthly payments in relation to your income. You will likely not qualify for a mortgage loan with them. It won’t matter to them if you have lowered your monthly payments with a graduated repayment plan – they will calculate your DTI by using the percentage of your total loan balance.
Many lenders collaborate with state and federal assistance programs and may have a better track record when working with first-time buyers who have student debt. Your college or graduate degree is worth something, and it should continue to advance your career and your earnings. The programs below will help jump-start your ability to make homeownership a reality.
Increased 2022 Loan Limits Can Help
The Federal Housing Finance Agency plans to raise the conforming loan limits for 2022. The new conforming loan limit will be $647,200 in most housing markets, an increase of $98,950 compared to 2021’s limit of $548,250. And for higher-cost areas, the conforming loan limit will be raised to a maximum of $970,800.
These increase loan limits can make it easier for many buyers to qualify for conforming loans backed by Freddie Mac and Fannie Mae. This means many buyers won’t need to qualify for a jumbo loan, which requires a larger down payment. This is good news for those of you with student loan debt and constrained cash flow.
Are You Ready?
Evaluate if you’re truly ready to be a homeowner, even though you have student loans to pay back. Homeownership is both a big financial and lifestyle commitment.
You may already be handling sizable monthly housing costs due to the higher rents in the Raleigh area. You may be ready to invest that money in your own home, rather than a rental.
Honestly answer questions about yourself.
Do you have a good job with steady income and expectations of more earning power?
Do you plan to remain in the area for at least the next 5 years?
Have you been paying back your student loans each month and saved some money?
Is your DTI not too high, and are you willing to find an assistance program that could help?
As a first-time buyer with student debt, you may need to lower your expectations for your first home, change locations or buy a townhome instead of a single-family house.
Focus on getting your first home and clear that hurdle. If you do it right the first time and aren’t house poor, you’ll be able to move up to your next home in later years.
You invested in your education, and it took time to get your degree and start your career. It’s almost the same with becoming a homeowner. It takes time but your first home can lead to your next and so on as you get more financially secure.
Questions? I am here to help you determine if homeownership is right for you now or soon. It does take some planning, even if you don’t have student loans, so give me a call and we can come up with a plan based on your timeframe.
