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How to Get a Mortgage with Student Loans
Having student loans can make getting a mortgage more challenging and complicated but this does not mean you cannot get approved. It is important to understand how student loans affect your ability to qualify for a mortgage including the loan amount you can afford.
Your monthly payment, if your loans are deferred or in forbearance and if you are on an income-driven repayment plan all factors lenders consider when you apply for a mortgage. Qualification requirements may also vary depending on your mortgage program.
Although the mortgage guidelines for student loans can be confusing and overwhelming, the more you understand them, the more likely you are to qualify for the loan you want. In an effort to make the process more manageable, we offer a comprehensive explanation of each guideline so you can better understand how they apply to you. So continue reading to learn how to get a mortgage with student loans.
How is Student Loan Debt Is Treated When You Apply for a Mortgage
Under most circumstances student loan payments are treated like other types of monthly debt payments such as car loans and credit card bills. Your monthly student loan payment is included as debt when the lender calculates your debt-to-income ratio to determine what size mortgage you can afford.
Your debt-to-income ratio is the ratio of your monthly debt payments to your monthly gross income. Your debt payments include total monthly housing expense plus other monthly debt payments including credit card, auto and student loans as well as alimony, spousal or child support payments, if applicable. Total monthly housing expense includes your monthly mortgage payment, property tax, homeowners insurance as well as other potential housing-related expenses such as mortgage insurance fees and homeowners association (HOA) dues, if applicable.
Lenders only allow borrowers to spend so much of their monthly gross income and debt expense and that limit is the debt-to-income ratio. The maximum debt-to-income ratio permitted varies by mortgage program and other factors but lenders typically apply a debt-to-income ratio limit of 43% - 50%.
From the standpoint of a borrower with student loan debt, the more money you spend on your monthly student loan payment, the less money you can spend on your mortgage and other monthly housing expenses which reduces the size of the mortgage you can afford. This is why student loans can make it more challenging to qualify for a mortgage.
- Use ourMORTGAGE QUALIFICATION CALCULATORto determine what size mortgage you can afford based on your loan payments and income
Student loans can also make it more challenging to save for the down payment to buy a home, which is another consideration for borrowers.
What if Your Student Loan Payment is Lower than What Is Stated in Your Original Loan Documents
Many borrowers who are on income-driven repayment plans make monthly payments that are lower than the monthly payment stated in your original student loan documents, including no monthly payment in certain cases. If you are on an income-driven repayment plan the lender uses the lower monthly student loan payment you are actually making as long as that payment is reflected on your credit report and you provide loan documentation that verifies the plan and lower payment. For example, if you were supposed to make a monthly payment of $350 according to your original student loan documents but you currently make no payment according to the terms of an income-driven repayment plan, then the lender use the $0 payment to calculate your debt-to-income ratio to determine how much mortgage you can afford.
In the past lenders would use the payment outlined in your original student loan documents to calculate your debt-to-income which meant mortgage borrowers could not benefit from the lower payment they were actually making. According to revised lender guidelines, the actual student loan payment you are currently making according to your credit report or other documentation is included in your debt-to-income ratio, which can make it easier to qualify for a mortgage.
What If Your Actual Student Loan Payment is Different than the Payment on Your Credit Report
In some cases, the credit report for borrowers on income-driven repayment plans may not accurately reflect the current monthly student loan payment the borrower is making. For example, the credit report may state the original, required student loan payment instead of the lower, income-driven required payment. In this case, as long as you provide loan documentation that verifies the plan and lower payment, the lender uses the lower monthly payment. The lender may also request a credit report supplement or updated credit report that shows the correct monthly student loan payment.
How Student Loans that are Being Deferred or in Forbearance Are Treated When You Apply for a Mortgage
Some people think that if their loan is being deferred or in forbearance then it is excluded from their mortgage application but that is not accurate. Based on standard mortgage guidelines for conventional mortgages, payments on student loans that are in deferment or forbearance are still included when you apply for a mortgage, even if your required monthly payment is $0 according to your credit report. Even though you may not be required to make a payment, lenders include one in your debt-to-income ratio because you may be required to start repaying your loans in the future and they want to make sure that you can afford both your student loans and your mortgage.
For loans that are deferred or in forbearance, the monthly payment for the loan is calculated as either 0.5% or 1% of the outstanding loan balance or the full payment amount according to your loan documents, depending on the lender and loan program. For example, if you have $30,000 in student loans outstanding and the lender applies the 1% method, the monthly payment that is included in your debt-to-income ratio when you apply for a mortgage is $300 ($30,000 * 1% = $300). If the lender uses the 0.5% method, the monthly payment included in the ratio would be $150. The added monthly debt expense attributable to the student loans reduces the mortgage amount you can afford.
The 0.5% student loan payment calculation method is according to Freddie Mac guidelines and the 1% method is according to Fannie Mae guidelines. Freddie Mac and Fannie Mae are not lenders but they help determine qualification guidelines for conventional mortgages. Many lenders are able to use both guidelines so we recommend that you understand the method that applies to you before you apply for the loan. Finding a lender that uses the lower 0.5% payment calculation method may enable you to qualify for a higher mortgage amount.
We recommend that you contact multiple lenders in the table below to learn more about applying for a mortgage with student loans. Comparing lenders and loan proposals enables you to find the best mortgage terms.
Understand Student Loan Guidelines for FHA, VA and USDA Mortgages
For FHA home loans, lenders use the payment shown on your credit report or the actual payment you are making if you can verify the payment by providing your current student loan documents. For example, if you are on an income-driven repayment plan and your actual payment is lower than the payment reported on your credit report, the lender includes the lower payment in your debt-to-income ratio, as long as you provide supporting documentation. If the payment reported on your credit report is zero, such as if your loan is being deferred or in forbearance, the monthly payment used by the lender is 0.5% of the loan balance.
For USDA home loans, if your student loans have a fixed payment, interest rate and length that do not change, then the lender includes that payment in your debt-to-income ratio, assuming the payment pays off your loan in full at the end of your loan term. If your student loans payments are not fixed and subject to change -- such as if your loans are deferred or in forbearance, if you are on an income-driven or income contingent repayment plan or if you have graduated or adjustable payments -- the lender includes the greater of 0.5% of your outstanding loan balance according to your credit report or your current monthly payment according to a documented repayment plan.
For a VA mortgage, the lender compares a payment equal to 5% of your student loan balance divided by twelve to the loan payment stated on your credit report. For example, if you have $30,000 in student loans, the lender multiples this balance by 5%, which equals $1,500 ($30,000 * .05 = $1,500), and then divides this figure by 12, which equals $125 ($1,500 ÷ 12 = $125). The lender then compares this payment to the student loan payment stated on your credit report.
If the student loan payment on your credit report is higher, the lender includes that payment in your debt-to-income ratio. If the payment on your credit report is lower than the other payment calculation methodology, the lender can use the lower payment as long as you provide student loan documentation such as a current account statement that verifies the payment. This approach applies to student loans you are currently paying, loans on an income-driven repayment plan and loans that are deferred or in forbearance with payments scheduled to begin within twelve months of your VA mortgage closing.
We should highlight that for a VA mortgage, as long as the student loan is expected to be deferred or in forbearance for at least a year after the mortgage closes, the lender can exclude the loan payment from your debt-to-income ratio, which is unique to the VA home loan program and certainly more borrower-friendly.
Additionally, student loan debt for permanently disabled veterans is automatically forgiven according to the Total and Permanent Disability Discharge program that was announced in August 2019. Eligible veterans should have their student loans cancelled unless they opt out of the program. Veterans that qualify for the program can also be reimbursed for any student loan payments they made after the date of their disability discharge.
Because payment calculation methods for student loans that are deferred or in forbearance vary by lender and loan program we recommend that you confirm the approach used by your lender before you apply for a mortgage.
How Student Loans on a Graduated Repayment Plan Are Treated by Mortgage Lenders
If you are on a graduated repayment plan your monthly student loan payment may increase over the course of your mortgage. For example, your monthly payment may be $200 this year, $300 next year and $400 the following year. In this scenario you may be wondering what loan payment amount the lender includes in your debt-to-income ratio because the payment changes over time.
For applicants with student loans on a graduated repayment plan, lenders typically look out three years from when you apply for a mortgage and use the highest monthly loan payment over that time period to determine the mortgage amount you can afford. Returning to the previous example, if your student loan payment increases from $200 to $400 over the next three years, the lender includes $400 in your monthly debt amount. The lender uses the highest loan payment because they want to make sure that you can afford both your student loan and your mortgage payment now and in the future.
When Can You Exclude Student Loan Payments When You Apply for a Mortgage?
You can exclude your student loan payments when you apply for a mortgage if your income-driven repayment plan does not require a monthly payment or if your loan payments have been paid in their entirety by a another party, such as a relative, for the prior twelve months. For example, if your parents have paid your student loans for the past year, then your student loan payments are not included in your debt-to-income ratio when you apply for a mortgage, even though you are still legally responsible for the loans. (This rule also applies to other non-mortgage debt such as credit cards and car loans).
Please note that for student loan debt to be excluded under this scenario, the other party is required to make the entire payment for the prior twelve months and not any partial payments. The borrower is also required to provide the lender bank statements or cancelled checks from the party that paid the loans to verify that the payments have been made in full and on time. If you are thinking about applying for a mortgage in the future but do not have the funds to payoff your student loans then getting a helping hand from someone to pay your loans for a year can improve your ability to qualify.
You can also exclude your student loan payments if your loan is deferred, in forbearance or has less than eleven payments remaining and your entire loan balance is going to be paid, canceled or forgiven by an employment-contingent repayment plan. In short, if you can document that your employer is going to pay off your student loans or your loans are going to be forgiven or canceled in full as a result of your employment, then your monthly student loan payment is excluded from your debt-to-income ratio for a mortgage. Finally, if your student loan has already been canceled, forgiven or paid in full then no payment is included in your loan application, regardless of the mortgage program.
Can You Take Cash Out When You Buy a Home to Pay Down Student Loans?
Aside from highly specialized, very uncommon loan programs, you cannot take money out when you get a mortgage to buy a home to pay down or pay off your student loans. Some lenders enable borrowers to use a small portion of proceeds from a home purchase mortgage to pay off a portion of their student loans; however, these programs are highly unusual and typically limit the amount of proceeds you can use to pay off your student loans to $3,000. These programs may also impose significant borrower restrictions such as the type or location of home you can purchase.
A small number of state or local housing commissions may also offer student loan assistance when you purchase a home but these programs also typically impose significant restrictions (such as buying a home out of foreclosure). Although these programs are very challenging to find, you can contact your state or local housing commission on STATE PROGRAMS to understand if they offer a student loan assistance program that applies to you.
Can You Take Cash Out When You Refinance to Pay Off Student Loans?
Yes. Most lenders offer a student loan cash-out refinance program that enables you to use the proceeds from a cash-out refinance to pay off your student loans. In fact, a student loan cash-out refinance usually charges a lower mortgage rate than a standard cash-out refinance due to special pricing for this program because paying off or down your student loans improves your ability to repay your mortgage so you are a less risky borrower.
Please note that to qualify for the program, at least one student loan must be paid in full as partial payoffs of student loans are not permitted and the loan proceeds must be disbursed directly to the student loan lender. Additionally, the borrower cannot personally receive more than $2,000 in proceeds from a student loan cash-out refinance.
The maximum loan-to-value (LTV) ratio for a student loan cash-out refinance is typically 80% for a single unit property which means the borrower must have sufficient equity in their home to both pay off their student loan as well as their mortgage and any other debts against the property. The borrower must also qualify for the loan based on their credit score, debt-to-income ratio, employment history and other borrower qualification guidelines.
The student loan cash-out refinance program applies to both students and other parties such as parents who have taken out or guaranteed student loan debt. For example, parents can use the program to access the equity in their home to pay off student loan debt that have taken out on behalf of their children.
Sources
"Student Loan Solutions, Frequently Asked Questions." Fannie Mae Single Family. Fannie Mae, July 2018. Web.
"5401.2(a)2.(i). Student Loans." The Single-Family Seller/Servicer Guide. Freddie Mac, January 2020. Web.
"II.A.4.b.iv.(H). Student Loans." FHA Single Family Housing Policy Handbook 4000.1. Federal Housing Administration, June 17 2021. Web.
"Student Loan Payment Calculation of Monthly Obligation." Mortgagee Letter 2021-13. Federal Housing Administration, June 17 2021. Web.
"Chapter 11.2.B. Student Loans." Single Family Housing Guaranteed Loan Program Technical Handbook. U.S. Department of Agriculture, 2020. Web
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