First-time home buyers face plenty of obstacles on the road to homeownership, especially when trying to qualify for a mortgage loan.
The process can be complicated, time-consuming, a tad stressful, and rather exhausting—throw existing debt into the equation and your attempt to land a loan gets exponentially more difficult. And while all forms of debt could potentially be a hindrance when trying to rein in a loan, there’s one type of debt, in particular, that seems to be nearly ubiquitous among aspiring homeowners.
We’re talking, of course, about student loan debt.
Outstanding student loan debt in this country has soared over the last two decades, with 45 million borrowers owing $1.5 trillion, more than double what was owed about a decade ago. Individual debt ranges between $10,000 and about $30,000, but more than 7 million Americans owe more than $50,000 each in student loans.
And the consequences of combating existing student loan debt isn’t merely saddling those who are fresh out of college. Statistics show that borrowers aged 25 to 34 owe the most, at a total of $454.6 billion—while those aged 35 to 49 saw the largest increase in debt and also carry the highest number of delinquent balances.
These numbers are certainly staggering, to say the least—and such pervasive debt could scare people away from dipping their toes into the real estate market and buying a home. But should it? Should student loan debt stop you from achieving the dream of homeownership?
The short answer is, “no.”
While it’s a financial burden that can alter your plans for the future and influence how you live life in the present, student loan debt, when diligently managed, doesn’t have to eliminate you from the home-buying conversation. Don’t get us wrong, getting a mortgage loan while overcoming student loan debt is challenging—but it isn’t impossible.
Mortgage lenders look closely at your debt-to-income ratio (DTI) when considering your borrowing potential and financial stability. Your DTI is the financial yardstick that measures your ability to assume a mortgage loan, as it considers your monthly income versus how much you owe in monthly debt. The lender calculates your DTI by adding up your recurring monthly debt—like credit cards, car loans, student loans, etc.—and dividing that total by your gross monthly income.
Let’s say your monthly income before taxes and other withholdings is $5,000 and the total recurring debt you face per month is 1,975. Your DTI would be 39%. This would be ideal, as mortgage lenders typically want to see a DTI of 43% or less before approving you for a loan. But then if you add $393 in student loan payments (the average monthly payment according to the federal reserve), that brings your monthly debt to $2,368, pushing your DTI to 47%—making lenders less likely to give you a loan.
Then there's the effect of credit scores on your ability to take on a mortgage loan. As you probably know, your credit score is the number that indicates your financial health and signals to lenders how well you manage debt and whether or not you’re too risky as a potential borrower. Credit scores are based on several factors, including your total debt, the nature of the debt, and if you make payments on time.
Lenders pull credit reports from three main reporting bureaus: Experian, Transunion, and Equifax. These scores account for what’s known as a FICO score, the model used by mortgage lenders when evaluating applications.
Student loan debt is just like most other kinds of debt, in that it can affect your credit scores either positively or negatively, depending on how diligent you are with monthly payments. Missing a payment or making a late payment can follow you for years, doing serious damage to your credit score. But making regular, on-time payments every month can actually raise your score, boosting your credit and showing lenders that you’re a safe bet when it comes time to examine your potential for a mortgage loan pre-approval.
The only true path to financial independence and stability is to get your loans under control. Student loans can often creep into the $30,000 range or more (sometimes much more), and paying it off in full can feel utterly hopeless. But remember: It’s been done before and if others can do it, so can you. If you want to buy a home, but your DTI is too high and your credit score is a wreck, there are steps you can take to turn things around and get that mortgage loan.
Try to pay more towards your student loans each month. This might involve cutting back on frivolous spending, like new clothes, unnecessary luxuries or constantly eating out and redirecting it toward student loan payments. Also consider taking “found money,” such as gifts, tax refunds or cash bonuses, and using it exclusively to pay down your debt. This will gradually improve your DTI and even your credit score.
Refinance or consolidate your loans. The U.S. Department of Education offers loan consolidation programs for federal loans, combining them all into one monthly payment that could be easier to manage. This doesn’t lower your interest rate, but it certainly helps keep track of your debt, while also giving you access to flexible repayment plans. As for private student loans, you can look into consolidation and refinancing options offered by your lender, whether that’s a bank, credit union, or another source.
Make more money. OK, stop rolling your eyes. Seriously, see if you can get a raise at your current job or even take on a part-time job or some freelance work to try to earn a little extra cash on the side. Besides giving you the resources you need to pay your student loans each month, increasing your monthly income can improve your DTI and also help you save money that you could put toward a down payment.
Seek out assistance with your debt. Some employers offer student loan debt repayment assistance along with the typical benefits one receives from a job. The number of companies that provide this benefit has doubled since 2018, according to the 2019 Employee Benefits Report, a survey by the Society for Human Resource Management (SHRM).
Remember, lenders want you as their customer. Finding potential homeowners they can trust to responsibly pay their monthly mortgage payment is part of their business plan. The steps necessary to pay down your student loan debt can take time, but the result is worth it—so be patient and persistent! Even small changes to your financial situation can net big results and even a home of your own.