Going to college gives people advantages in life. But one disadvantage for many college graduates hefty student loan debt.
In fact, the average amount of student-loan debt by a 2015 graduate is more than $35,000, according to Edvisors, a group of websites about planning and paying for college. Seventy-one percent of bachelor degree holders will graduate with a student loan.
So how does all that figure into these graduates’ lives once they get a job and decide eventually they want to buy a house?
“Having to make student loan bills can affect everything from where you live to whether or not you go to grad school. It also may postpone people from having children, and whether or not they buy a house,” says Betsy Mayotte, director of regulatory compliance at the American Student Assistance (ASA) in Boston, a non-profit organization that helps students secure and repay higher education financing.
How Student Loans Affect Mortgage Qualification
Someone’s student debt will be considered within his or her debt-to-income (DTI) ratio when they apply for a mortgage – just like other debt such as credit cards or a car loan, Mayotte says.
The best way to get a loan is to make sure your outgoing payments for those debts and for your new home costs is 36 percent or less of your gross income. The lower the DTI, the better off you will be.
The maximum DTI can rise to 45 percent if the borrower meets the credit score and cash reserve requirements, according to the Fannie Mae website.
“People need to understand that having student debt is not the end of the world, even though some might be sizable loans,” says Dave Miller, senior account manager at Radian in the Midwest, and former board of director for the Indiana Mortgage Bankers Association.
Some people are coming out of graduate school with a couple hundred thousand dollars in debt, he says. But somehow, these people manage to buy homes.
Good Reasons to Pay Student Loans on Time
If you have student loans, you must be vigilant about making those payments on time. They do count against your credit score. Plus, if you default on a government-backed student loan (called subsidized), or are late many times on paying it back, it could stop you from qualifying from a mortgage – especially if your mortgage is through the FHA, VA or USDA.
Your lender will check to see if you are in default on any of your government obligations, Miller says.
If you didn’t pay back your first government-backed loan, it’s assumed you might not pay back the next one.
Student Loan Affordability
Mayotte says that the government has made significant strides, though, to make federal student loans more affordable for those stuck with big bills after graduating.
“There are new programs to help borrowers base their student loan payments on their income – Income Based Repayment (IBR) or PAYE (Pay As You Earn). After a certain amount of time such as 10, 20 or 25 years of payments, then the remaining balance is forgiven,” she says.
Are Deferred Student Loan Future Payments Counted Against You?
Things are changing after Sept. 14, 2015 when it comes to mortgage lenders based on IBRs and mortgage qualifications.
“Before that date, if a borrower has a loan in deferment for over 12 months with an IBR, the debt won’t be counted against them. And if they had really low income, they could use zero dollars for their payment,” Mayotte says. “But after that date, they won’t be able to do that anymore.”
After that date, IBR Payments may be calculated as 2 percent or 5 percent of the balance owed, depending on what type of mortgage they are applying for. USDA home loans for IBR student loans are required to count 1% of the balance, regardless of deferment status.
For instance, if you have $20,000 in student debt and you apply for a USDA loan, a $200-per-month payment will be added to your other monthly payments.
The exception is when you can get a written statement from the loan servicer that states a different payment.
Here is how other loan types deal with deferred student loans.
- FHA: Student loans deferred more than 12 months do not have to be counted toward the applicant’s debt ratio.
- VA: Loans deferred more than 12 months need not be counted.
- Conventional: The lender will use the actual future payment. If the actual payment might adjust or it is not able to be determined, the lender will use 1% of the loan balance.
- USDA: As stated above, 1% of the loan balance will be used as the payment.
That extra payment can make a big difference, Mayotte says. “You have added a big component to the picture.”
Student Loan Forgiveness
If you were lucky enough to get federal student loans during your college years, you might be able to qualify for one of the forgiveness programs. These forgive all or a portion of your loan balances if you meet certain specifications. One of these programs, Public Service Loan Forgiveness, is available to qualifying borrowers who work in public service professions such as public defenders or teachers. The federal student aid website describes employment that is eligible for loan forgiveness.
“If you didn’t have federal student loans but private ones, there are consolidation loans that have always been out there. There are services out there that are willing to combine student loans to make them more manageable,” Miller says. “But borrowers really have to take responsibility to be proactive and ask the right questions.”