Many potential first time home buyers believe that their student loan debt takes them out of the game when it comes to getting a home loan… but most of the time it doesn’t!
You are not alone.
So many people have student loan debt, but so many of them have also bought homes! It’s possible. You may even be playing with the idea of getting your student loans paid off first, but if your student loans are of a substantial amount, that may not be your best option. Don’t forget to consult with your financial advisor first to make sure this is what’s best for your situation.
Lenders view student loan debt a little bit differently than other debts, like car payments or credit card debt. There may even be some amazing assistance programs in your area that make buying a home more affordable.
I’ve got some other options for you to consider so you don’t have to delay years until becoming a homeowner, especially if you have substantial student loans.
Some Options You May Have
- Low down payment options:
Utah Housing loans offer a second, subordinate loan to cover the cost of the down payment. This second loan has its own interest rate and monthly payment, however, this is usually combined into your total monthly payment so you can pay the loans off simultaneously.
If you are looking to live somewhere rural (along the Wasatch front that would be anywhere south of Springville) you may be eligible for a USDA loan too… yes the same USDA that grades beef also offers home loans. They have a zero down option as well for qualifying borrowers. Another option for a zero down payment include VA loans for veterans and military members.
FHA only requires 3.5% down. HomeReady and Home Possible loans only require 3% down.
- Gift Funds
Do you have a parent, grandparent, or family member that is able to help out with your down payment? A higher down payment means a lower loan amount, which means a lower monthly payment. This improves your debt to income ratio and helps you qualify for a better home.
It is not uncommon for first time home buyers to co-sign with a family member or close friend to help them get into a home. This allows you to use their income, combined with your own, to help you qualify for a higher loan amount and a better rate.
How Lenders Look at Student Debt
Let’s get to the basics of how financing works first. When you buy a home, a lender will look at your debt-to-income ratio or DTI.
Investopedia.com defines Debt-to-income ratio as: the percentage of your gross monthly income that is used to pay your monthly debt and determines your borrowing risk.
In other words… it is the amount of recurring debt that you pay monthly, compared to your monthly income. A lender will view your debt-to-income ratio as a higher importance than your credit score or downpayment because they need to determine if you can afford a monthly mortgage payment.
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.
• The 28% is part of the front-end ratio equals your monthly housing expenses (principal, interest, mortgage insurance, property taxes) divided by your gross monthly income. Your other recurring debt is not included.
Keep in mind, your DIT and the 28/36 rule has 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 carry 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.
Calculating your ratio is simple.
First, add all the monthly payments you make. Only include regular, recurring and required payments in your calculations. Some payments you should include are:
- Student loan payments
- Car payments
- Your monthly mortgage payment or rent
- Your homeowners insurance or renters insurance premium
- Personal loan payments
- Any monthly homeowners association fees you pay on your current property
- Minimum credit card payments
- Court-ordered back taxes, alimony or child support payments
Leave out expenses that vary. Some expenses that you shouldn’t include are:
- Utility bills
- Entertainment, food and clothing costs
- Gas or other transportation costs
- Savings account contributions
- 401(k) or IRA account contributions
- Health insurance or HSA expenses
Remember to only include the minimum required payment you need to make each month. If you have $20,000 in student loan debt but you only have a minimum required payment of $100 a month, only include $100 in your DTI ratio calculation.
Add all of these expenses up and divide it by your total pre-tax monthly income. If someone else will be on the loan with you include their income as well… then multiply that number by 100 to get your debt-to-income ratio as a percentage!
Shop Around for Lender
When you have student loan debt, you need to find a mortgage lender who is willing to work with you and offer programs that may be geared toward borrowers just like you.
Many lenders work with state and federal assistance programs, and may have a better track record when dealing with first-time buyers with student debt. Your college or graduate degree is worth something and it should continue to advance your career and your earnings.
Different loan programs have different DTI rates
• Fannie Mae HomeReady Mortgage — allows up to a 50% DTI and 3% down payment.
• VA Loan Guaranty – Buyers who have served in the military can qualify for a loan with 41% DTI. That can be overridden if some of your income tax free.
• FHA Loan – Usually allows a 43% DTI but will sometime allow a higher DTI on case-by-case basis.
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.
Honestly answer questions about yourself. Do you have a good job with steady income with expectations of more earning power? Do you plan to remain in the area for the next 5 years minimum? Have you been paying back your student loans each month and have some money saved? Is your DTI not too high and you’re 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, maybe 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.
Don’t let student loans slow your home buying dreams. I am here to help you determine if homeownership is right for you now or in the near future. 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.
I'm McCall Carter and I love helping first time home buyers make their first home more affordable and I love helping sellers looking to move up to their forever home. Let me know how I can help you make your real estate dreams come true.
2901 Ashton Blvd. #102
Lehi, UT 84043
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