It’s back to school time which means many college students and their parents are working on a financial plan to pay for college. Student loans are needed for most students but families need to evaluate how these loans will impact life AFTER graduation. More than half of student loan borrowers say their debt affects their ability or decision to purchase a home, according to a 2015 survey of 1,934 student loan borrowers. Becoming a homeowner is possible even if you have student loans. Here are some Homebuyer Tips for first time homebuyers with student loans:
Shop for a home you can afford
Home shopping can be tempting. Three-car garages! Granite countertops! Stainless-steel appliances! Before you get carried away, research a home you can afford. If you’re a first-time homebuyer, you may have to settle for a starter home instead of your dream abode.
Minimize debt from credit cards and car loans
When lenders evaluate you for a mortgage, they typically look at four things:
- Your income.
- Your savings.
- Your credit score.
- Your monthly debt-to-income ratio.
Your debt-to-income ratio shows the lender your total financial obligations — including car payments, credit card debt and student loans — compared with your income. Lenders are looking for borrowers with a debt-to-income ratio of 36% or less, including the monthly mortgage payment. To keep yours low, pay off as much debt as possible before applying for a mortgage.
Lower your monthly student loan payments
Even without other types of debt, having a lot of student loans could give you a high debt-to-income ratio. To lower that ratio and show your mortgage lender you have enough extra cash to make your monthly mortgage payments, consider refinancing your student loans or switching to an income-driven repayment plan to lower your monthly student loan payment.
There are tradeoffs involved with both refinancing and income-driven repayment plans. When you refinance federal student loans, they become private loans and you lose federal protections, including access to income-driven plans and federal forgiveness programs. Income-driven plans, which cap your monthly payment at a percentage of your income, increase the amount of interest you’ll pay over time because they extend your term length.
Most mortgage lenders won’t mind if your overall student loan debt will increase; they’re primarily concerned with your monthly payment, says Kevin Hanson, director of lending at Gate City Bank in Fargo, North Dakota. But you’ll save the most money on your student loans if you minimize the amount of interest you’ll pay over the life of the loan.
Make your student loan payments on time
When mortgage lenders look at your credit history, they’ll want to see that you’ve paid off other debts on time, including your student loans, car payments and credit cards. If you’ve proved you can handle debt responsibly and you have a good credit score to show for it, mortgage lenders will be more likely to approve you – even if you still have outstanding student loans.
Save for a down payment and closing costs
Buying a home doesn’t just involve taking on a mortgage – you’ll also have to pay upfront for closing costs and the down payment. Closing-related costs include the home inspection, mortgage loan origination fee, mortgage insurance, homeowners insurance premium and title fees. A traditional down payment is 20% of the cost of the home, but there are other options for borrowers today, such as putting less down and paying for private mortgage insurance each month until you build 20% equity in your home (though the less you put down, the more you’ll pay in interest).