One of the largest factors lenders looks at when evaluating your mortgage application is the amount of debt you carry. This directly affects your mortgage approval. If you have too much ‘other debt,’ a lender won’t feel comfortable adding to the debt by giving you a large mortgage. However, if you properly manage your debt, you might be just fine. What if you have student loans, though, how do they affect your mortgage approval?
The answer is that it depends. The lender will have to look at the big picture. They won’t focus solely on your student debt, but on all of the debt that you carry. Student debt has a few unique factors though, that we will cover below.
How Student Loans are Figured Into Your Debt Ratio
The most unique factor about student loans is your ability to defer them. Typically, this occurs for the first six months or so following graduation. However, certain programs allow you to defer the loans for longer periods.
If a loan is deferred, does that mean it doesn’t affect your debt ratio?
Unfortunately, no, they still affect your debt ratio, even if they don’t become due for a few years. The lender has to make sure that you can afford the mortgage once you have to start making student debt payments too. So you can expect your lender to figure out a payment that will figure into your debt ratio for your approval.
What Payments do Lenders Use?
In the ideal world, the lender would be able to use the payment that reports on the credit report for your student loans. If you deferred your payments or have some other type of agreement, though, you may have some legwork to do.
If there isn’t a payment reporting on the credit report, lenders will do one of the following:
- Calculate a payment equal to 1% of the outstanding principal balance. For example, if you have $30,000 in student debt, the lender would calculate a $3,000 monthly payment. That is obviously not the case, but they would use it for qualifying purposes if you don’t provide proof of a lower payment.
- Calculate the standard payment for the loan of your size amortized over 20 years. This will usually give you a much lower payment than the 1% rule.
- You can provide the lender with proof of your actual payment as agreed with the lender. The proof must be an official statement or letter from the lender stating that this is your payment.
The Maximum Debt Ratio
Once you know the payment the lender will use to calculate your debt ratio including your student loans, you can see if you qualify for any of the standard programs. In general, you’ll find debt ratios as follows:
- Conventional maximum back-end debt ratio – 36%
- FHA maximum back-end debt ratio – 41%
- VA maximum back-end debt ratio 43%
- USDA maximum back-end debt ratio 41%
This isn’t to say if your back-end ratio is 37% that a conventional lender would turn you down, though. Instead, they would look at the big picture, which includes the amount of your down payment; your credit score; debt ratio; and the amount of assets you have on hand.
The Big Picture
Lenders use the big picture to determine what type of risk you are as they understand that just one negative factor doesn’t make you ineligible for a program.
Instead, they look to see which factors offset the others. For example, you could have a high debt ratio, but have an excellent credit score and plenty of assets in the bank. Your high debt ratio might not seem as much of a big deal when looking at the big picture.
On the other hand, if you have a high debt ratio, low credit score, and no money in the bank, you are a much higher risk for the lender.
As you can see, none of these issues has to do with student loans in particular. They are just another type of debt that you carry. What it comes down to is how much of your money is tied up in loans and how much worse will a mortgage make that commitment. All the lender cares is that you will be able to afford your loans and the new mortgage without defaulting.
If you have student loans, it doesn’t mean you can’t have a mortgage. It may mean that you’ll have to do some legwork to find the right lender and loan program. You also might have to get proof of your actual payment if you are on any type of prepayment plan or have deferred payments. In the end, though, you’ll be eligible for a mortgage if you pay your debts on time, keep your credit score up, and have a decent amount of money for a down payment.