Your student loan isn't necessarily a big jerk.
Posted by Kelly
Mon 18 January 2021
Okay, it’s kind of a big jerk. But when it comes to getting a home loan, it doesn’t have to be.
Lots of first-timers are apprehensive about applying for a home loan because they think their student loan is going to be a big ol’ roadblock. And sure, there are times when paying off a student loan and a home loan isn’t doable.
But it makes sense to run the numbers before you rule it out, right?
First up, let’s take a look at where your student loan fits into the application process.
Before we start, let’s just strip away all the power and fear around your student loan — it’s just a debt, like any other debt. We don’t place any more importance on your student loan payments than say, your credit card ones. We don’t see a student loan on your application and hit a big red button and call an emergency meeting. They’re just numbers.
So, what do we do with those numbers?
Your student loan figures will feature in two main parts of the application process — your DTI (debt-to-income ratio) and your FICO score. Sounds like a big deal, but you’ll be stoked to know there are ways to improve both of them so they won’t necessarily hold you back.
Now let’s start with your DTI...
Your monthly student loan payments fall into your debt category, along with any other monthly payments for things like your car loan, child support or credit cards.
Just back to dethroning student loans for a second — when it comes to DTI, we don’t actually take into account your total loan amount (good lordy, that number can be terrifying). We only look at what you pay monthly. The extra good news about that is, there are a handful of ways to reduce those monthly payments (more on that later).
Okay, so we’ve figured out your debt. Now, in order to figure out how comfortably you’re going to be able to pay off a home loan, we need to look at your income. Specifically, how much of your income goes towards your debt — and we do that as a percentage — your DTI to be exa
How does my student loan affect my DTI?
So, your DTI tells us pretty quickly whether or not you’re going to be okay paying off a home loan.
We figure it out by taking your monthly debt and dividing it by your gross income. Humor us, while we break it down:
Let’s say your total payments per month are $1200, and your gross monthly income is $4000. We divide 1200 by 4000 to get 0.3 — so your DTI is 30%.
Thanks for the math lesson but is 30% good, or bad, or what?
Okay, all lenders have different DTI cut-offs but the general consensus is that your DTI should be 36% or under, with your maximum home loan-related payments under about 28%. We can go much higher (up to 45%) on a conventional loan, as long as the credit score and reserve requirements are met.
Now there is an exception to those percentages — an FHA loan. These are loans issued by an FHA-approved lender and insured by the Federal Housing Administration (FHA). Designed for low-to-moderate-income borrowers, FHA loans require a lower minimum down payment and credit score than many conventional loans. FHA-approved lenders will go all the way up to 50% DTI in some cases.
If your DTI is looking a little borderline, we’ll chat about ways to improve it later. First, let’s talk about FICO scores and your student loan.
So how does my student loan affect my FICO?
Okay, let’s start by looking more broadly at how your FICO score is calculated. Essentially your FICO score is figured out using five different categories with varying levels of importance placed on each:
> payment history (35%)
> amounts owed (30%)
> length of credit history (15%)
> new credit (10%)
> credit mix (10%)
It’s worth noting that those percentages (levels of importance) are a general guide and can actually change from person to person but it’s good to get a rough idea of what parts of your financial situation are taken into account when determining your FICO score.
Now, the fact that you may have a big outstanding balance on your student loan doesn’t necessarily equal a bad FICO score. The credit bureaus who calculate your score are actually more interested in your payment history on the loan.
Simple tweaks can make a big difference.
We’ve explored the impact your student loan can have on your DTI and FICO score.
So before you decide if you actually need to give them some love, why not find out where you’re currently at?
Calculating your DTI and FICO
As we mentioned earlier, there’s a simple way to figure out your DTI: Taking your monthly debt and dividing it by your gross income.
Here are the kinds of things you should include in your monthly debt (for DTI purposes):
> Rent or house payments
> Credit card payments (the minimum payment)
> That student loan of yours
> Car or other recurring monthly payments like alimony or child support
Just FYI, lenders don’t take into account expenses like groceries and gas as part of your monthly debt.
Okay, got your monthly debt? Great. Now grab your gross income. We’ll wait….
Now divide your monthly debt by your income and multiple by 100 - that’s your DTI ratio!
So if it’s under 36%, you’re sitting pretty. If it’s over, we’ll walk you through some ways to get it down in the next section.
As for your FICO, some of the larger banks will provide their customers with their FICO score so check with them. Alternatively, you can jump onto this FICO score estimator for a quick idea of how you’re looking
All lenders have different FICO score benchmarks when it comes to lending — ours is a minimum of 620.
So you’ve got your FICO and your DTI and you’re feeling preeeetty good — in 15 more minutes, you could have a Purchase-Ready Approval complete with your exact rate and borrowing amount. Apply here with us, from your sofa.
Not ready to commit just yet? Dip your toe with our rates calculator and in 2 mins, you’ll get a pretty good idea of your final rate and borrowing amount.
Or maybe your DTI or FICO could use a little help...
No sweat. We’ve got a bunch of ways you can tweak a few things to get you over the line and into that sweet new place.
Reduce your debt (we know, we know - Captain Obvious!)
> Federal student loans offer a lot of flexibility when it comes to repayment options so take a look at your current plan and see if you can make your monthly payments less. For example, changing from a standard to an extended payment plan will save you monthly, and you can always change it back later if you want to pay your student loan off sooner. If you’re with a private lender for your student loan, you’ll have less options but definitely worth a chat with them.
Revisit your interest rate.
> Can you refinance your student loan to a lower interest rate? We explore student loan refi options in-depth here.
Start a side hustle.
> Got something you love doing that you could monetize? Hit that.
Get a second job. Stay with us here…
> It doesn’t have to mean grinding away at two full-on jobs. Even if your second job is only a few hours a week, if you’re on the DTI borderline, it might just get you where you want to be.
Check it out: if your current monthly debts are $1500 and your gross monthly income is $3700, you’re sitting at 40% DTI. If you add an extra $100 a week to your gross income, you’ll be at 36% DTI. And that, friends, puts you in a much better position.
Little debts. Big difference.
> Take a look at your debts, are there any smallish ones you could pay off to reduce your DTI? Say you’ve got a $2000 credit card debt with a 22% interest rate and you’re paying it off at $100 a month — that’ll take you a little over two years to pay down.
By paying it in full now, you’re saving yourself interest and you can take that $100 a month and pay it off the principal balance of your student loan each month, or put it aside to start a down payment for a home.
Make tactical payments.
> Just on that ‘paying off your principal balance’ thing — paying extra off the principal of any loan is a most excellent idea. But let’s focus on your student loan for now — if you take that $100 and apply it tactically by paying it off your student loan the day after your loan repayment was due (ie: when there’s zero interest accrued on it), you’re starting to put a big ol’ dent in that principal.
Apply with a loved one.
> Sure, this is a roundabout way to increase your income but why not? If you’ve got a spouse or a trusted somebody, pool your income and apply together. Just bear in mind, if that ‘special someone’ has a less-than-awesome credit score, they may actually bring your application down.
Is an FHA loan for you?
> Find out if you may be eligible for an FHA loan right here.
> And if you can combine debt reduction by revising your student loan payments with a little extra income, then you’ve got a killer combo that won’t feel like a big overhaul.
> Check out our other tips to lower your FICO score here.
If you’re feeling a little less ‘ugh’ about that student loan, dip your toe, and see how much you could borrow, in just a couple of minutes on our rates calculator.