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Buying a home with student loan debt can be tricky. While a lot of people consider student loans “good” debt, it is still something that the credit bureaus consider as they calculate your credit score. It also plays into your debt-to-income ratio, which is important for getting a mortgage.
Don’t let that scare you away though. Here’s everything you need to know about how to buy a home with student debt.
Improve Your Credit Score
Your first step is to get preapproved for your mortgage. This is where a lender will look at your financial situation and determine if they think you’re a good candidate for a mortgage.
As part of this process, there are a few things they look at which will be affected by your student loans. The first is your credit score.
Your credit score is based on several things including the amount of debt owed, payment history and credit mix. This is affected by your student loans because you owe money to an institution and those loans are tied to your social security number.
The credit score is important because it’s a way for organizations to get an idea of how well you handle your money. A high credit score means you (probably) manage your finances well and make all of your payments on time. A low credit score means you’ve probably struggled with payments in the past.
One good thing about buying a home with student debt is you have regular payments going out the door and are already building credit. The key is to keep paying on time and pay down your debts. This will boost your score, making it easier to get preapproved for a mortgage.
Improve Your DTI
Your debt-to-income (DTI) ratio is another important factor when buying a house. It is calculated by dividing your debts over your income.
For example, say every month you have the following bills:
- Student loan payments of $200
- Car payments of $300
- A mortgage of $1,500
That last one is for when you’ll have both student loans and a mortgage, which is the end goal when you buy a house.
This means your total recurring debts are $2,000 per month.
If you make $4,000 per month, that means your debt-to-income ratio is $2,000/$4,000 = 50%. Unfortunately, this is higher than the 43% ceiling usually used by lenders.
To improve your odds of getting preapproved, improve your ratio. If you pay off your car, now your debts drop to $1,700 per month. $1,700/$4,000 = 42.5%, so you can probably get a mortgage at that point.
The two ways you can improve your DTI are
- Pay off debt, or
- Increase your income
Ideally, you would do both, but everyone is in unique situations so it just depends on what’s right for you.
Challenges with Buying a Home with Student Debt
Homebuyers that have student debt should be aware of the two main challenges you’ll face.
The first is that if you have a lot of student debt, your payments are probably somewhat high and your credit score may have suffered. It could take some time for you to pay off some of that debt and get to a better financial position so you can buy a house.
The second is that the money going towards your student loan payments means you aren’t able to save as much money for a down payment. If you’re trying to save at least 20% of the purchase price of the home, it will take longer since you can’t save as much.
Don’t let this get you down though! We’re here to help – just send us an email at [email protected] and we’ll help you know where you stand in terms of getting preapproved for a mortgage.