Buying A House When Saddled With Crushing Student Loan Debt

By Joseph Reinke, CFA, CEO of FitBUX

The dream of many, as well as the most common way for Americans to build wealth is buying a home. That is becoming more and more of a dream nowadays for those graduating with massive student loan debt. According to CNBC, 83% of people ages 22-35 who haven’t bought a home blame their student loans.

One of the reasons student loan borrowers can’t qualify for a home loan is their debt-to-income ratio (DTI). This article gives you an example of why that is as well as a way to potentially help you qualify for a mortgage by “optimizing” your DTI ratio.

Note: DTI is your total debt obligation divided by total gross earnings.

A Grad School Example

An individual who has a graduate degree used to be a no brainer to qualify for a mortgage. However, that has changed.

For the following example, we will use actual data we have collected from FitBUX members.

Let’s assume a recent graduate making $70,000 a year (i.e. $5,833/months), with $145,000 in student debt and a total monthly required payment for her student debt of $1,632. Let’s also assume that she has no other debt or source of income.

Her DTI ratio would then be 28% ($1,632/$5,833).

Let’s say she wants to buy the home of her dreams and apply for a mortgage. On average, mortgage lenders will allow overall DTI ratios (including the monthly payment for a mortgage) up to 35% - 45% overall. We’ll use 40% in our example.

This means that her home mortgage, taxes, homeowners insurance, PMI, and HOA fees must be 12% of her income or less. (40%-28%= 12%)

To see how much mortgage this person would be able to qualify for, let's assume that she would use the full 12% just for her mortgage.

That means that she is left with only $8,400 per year that I can use to pay her my mortgage (i.e. 12% of $70,000), which equals to $700 per month.

Assuming a 30-year mortgage (Principal and Interest) at 5%, this means that she would only qualify for a mortgage of $130,000. Once you account for property taxes and homeowners insurance, that number will be even less of course.

So, one way to increase how much mortgage you can qualify for, all else equal, is to figure out how to “optimize” your pre-mortgage DTI ratio. In our case, the key number to work on is the monthly required payment of our student loans, assuming she cannot increase her earnings. 

One Way To Improve Your Situation

Although you may “feel” that you can afford more, the lender does not and won’t take your “feelings” into consideration. One way to become a better-qualified candidate for a home is to reduce your required monthly payment on your student loan. You can do this by using the extended fixed payment plan on your Federal loans or using a longer-term loan on your private loans. This, in turn, will decrease your required monthly payment since you’ll be paying off your loans over a longer period of time.

Note: The extended fixed payment plan for Federal Loans extends existing, standard, 10-year loans to 25 years (keeping the same interest rate). If you decide to extend private loans, the interest rate would be different.

Using our example, extending all loans to 25 years while keeping the same interest rate would reduce the total required payment from $1,632 down to $962.

The new DTI ratio would then be 16% ($962/$5,833), with 24% available to secure a mortgage. All else being equal, our recent graduate would now qualify for a mortgage of $255,000.

Bad news, good news

One thing to keep in mind when considering extending existing loans is that one would end up repaying a lot more overall since the interest amount would be higher due to the longer term. That’s the bad news. To neutralize this, it is important to build a strategy where you will make additional/voluntary prepayments in addition to your required monthly payment. This will help you repay your loans faster and pay less interest.

The good news is that by making additional voluntary payments, you would be able to 1) target the highest-interest loan first, hence decreasing interest payments overall, and 2) decrease your total required payment each time a specific loan is paid off. By reducing your required monthly payment, you would further improve your DTI as well. That is really good news and we call it the FitBUX Extend & Prepay method for repaying your student loans.

About FitBUX, Inc.

If you need help making sure your student loan payments are done correctly, then be sure to check out the FitBUX Student Loan Tracking Solution

If you are interested in developing a student loan repayment plan that is customized to you, you can visit www.fitbux.com and become a member today for free.

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