Buying a Home with Student Debt

Is student loan debt holding you back from being a homeowner? 

You’re not alone.

Many first-time buyers are worried that their large student debt takes them out of the game when buying a home. But, most of the time, it doesn’t!  

So, don’t automatically assume you’re facing a roadblock to homeownership if you have student loan debt. Most everyone has some amount of student loan debt, even people who have bought a home. 

There are ways to work with lenders and assistance programs to make your first home purchase a reality — and even more affordable despite your student loans.  

We understand that you may be grappling about whether you should pay off your student loan debt first before you even purchase a home. That could be an option but don’t make it your only one. 

I have got some other options for you to consider so you don’t have to delay years until becoming a homeowner, especially if you have substantial student loans. 

And always remember to please consult with your own financial advisor to determine what is best for your situation.

How Lenders Look at Student Debt

Let’s get to the basics first. When you buy a home, a lender will look at your debt-to-income ratio or DTI. 

It is the amount of recurring debt you have monthly compared to your gross monthly income.  In a lender’s eyes, your DTI is more important than your credit score or how much money you have for a down payment.

Why?

A lender needs to consider your recurring debt — such as a car loan, credit card payments AND your student loan(s) — in order to determine if you can afford more debt with a monthly mortgage payment.  

The 28/36 Rule

Most lenders like to stick to the 28/36 rule. And that’s where the 36% DTI from above comes into play. 

• The 36% is the back-end ratio and equals your entire monthly housing costs expenses (principal, interest, mortgage insurance, property taxes) plus other debts (student loan, car loan, credit cards, etc) divided by your gross monthly income. It’s the DTI we explained above, and you don’t want to go above 36%.
• The 28% is part of the front-end ratio equals your monthly housing expenses (principal, interest, mortgage insurance, property taxes) divided by your gross monthly income. Your other recurring debt is not included. Again, a lender doesn’t want to see it above 28%.

Keep in mind, your DTI and the 28/36 rule has nothing to do with your credit score or how well you pay back your debt. It’s looking at the amount of debt obligation you have currently when compared to your income. Not whether you have been good at paying your student loan and other debt each month. (But keep doing that too!)

And that is why it can be frustrating for many first-time buyers with student loan debt who have good credit scores. 

How to Lower Your DTI

If you need to lower your monthly debt and obligations, start with your student loan lender(s). Here are some options to consider. Remember to always consult with your own financial advisor before pursuing.

• Graduated repayment plan – payments start low and rise every two years as your income should rise.
• Loan consolidation – if you have more than one student loan, combine them into one with a lower interest rate.
• Lengthen your payback term – spread out your loan repayment over more years to lower your monthly obligation. This will increase your long-term interest payments so carefully way the pros and cons of this strategy.

Examine all of your financial obligations and find other ways to lower you DTI: 

• Consider bumping up your monthly income with a side job … every little bit could help your cash flow and savings.  
• Don’t buy a car and use public transit to eliminate a recurring car loan debt. 
• See if you can negotiate a lower minimum monthly repayment requirement on your credit cards, especially one that is on the higher side. Some credit card companies are willing to work with you if you have a good credit score and payment history.

Shop Around for a Lender

When you have student loan debt, you need to find a mortgage lender who is willing to work with you and offer programs that may be geared toward borrowers just like you.

Steer clear of lenders whose underwriters just look at your entire balance of student loan debt and not your current monthly payments compared to your income.  You will likely not qualify for a mortgage loan with them.

It won’t matter to them if you have lowered your monthly payments with a graduated repayment plan – they will calculate your DTI by using the percentage of your total loan balance. 

Many lenders work with state and federal assistance programs, and may have a better track record when dealing with first-time buyers with student debt.  Your college or graduate degree is worth something and it should continue to advance your career and your earnings. 

These programs below will help jump start your ability to make home ownership a reality. 

Keep Increased Loan Limits in Mind

In 2022 the Federal Housing Finance Agency raised the conforming loan limits to a maximum of $747,500 in Boulder County and $684,250 in most of the Denver Metro Area. Now it can be easier for many buyers to qualify for conforming loans backed by Freddie Mac and Fannie Mae. This means many buyers won’t need to qualify for a jumbo loan, which requires a larger down payment. This is good news for those of you with student loan debt and constrained cash flow. 

Tapping into Federal Loan Programs

There are several government programs that offer loans to borrowers with student loans. Each has different requirements and may not be a good option for you. However, one may make your homeownership dreams comes true.

• Conventional Mortgage – First-time homebuyers can get a conventional loan with as little as 3% down if the mortgage meets requirements set by Fannie Mae and Freddie Mac. If you put 20% you can avoid mortgage insurance. Minimum score is usually 620.
• VA Loan Guaranty – Buyers who have served in the military can qualify for a loan that requires benefits such as no  minimum credit score and no down payment or mortgage insurance, but you’ll likely have to pay a VA funding fee.
• FHA Loan – This is the go-to program for many first-time buyers with low credit scores. Down payments are 3.5% for credit scores 580 and higher. Scores as low as 500 require a 10% down payment. Mortgage insurance is required for the life of an FHA loan and cannot be canceled.
• USDA Loan – This is a zero-down payment mortgage for eligible homes in rural and suburban areas. There are income limits, and applicants with a score of 640 or higher can receive streamlined processing. Scores below that must meet stringent underwriting standards.

Getting Assistance in Colorado

The state of Colorado does not have a specific program geared toward student loan debt. However, there are some local and state assistance programs that can make home-buying more affordable for first-time buyers, many of whom have student loan debt.  

The Colorado Housing and Finance Authority (CHFA) provides access to fixed-rate mortgages and financial help for both your down payment and closing costs. You must have a credit score of at least 620. There is a 50% DTI limit for 620-659 scores, and a 55% limit for scores higher than 660. You will be required to complete a homebuyer education course, meet income requirements, and contribute at $1000 to the purchase.

CHFA Programs

• CHFA FirstStep – FirstStep and FirstStep+ programs provide a 30-year fixed-rate FHA loan to first-time homebuyers, veterans, or any buyer purchasing in a targeted area, along with down-payment assistance if needed. The home must be within the program’s purchase price and income limits.
• CHFA HomeAccess – HomeAccess and HomeAccess+ programs can provide a 30-year fixed-rate FHA or USDA loan to a first-time buyer or veteran who is living with a permanent disability or is the custodial parent of a child living with a permanent disability. There are income and purchase price requirements, but if you’re eligible, you can also obtain up to $25,000 in down payment assistance.
• CHFA SectionEight – SectionEight and SectionEight+ programs provide a 30-year fixed-rate FHA or USDA loan to a first-time homebuyer or veteran who is also receiving Section 8 assistance. You can combine this program with down-payment assistance but there’s a borrow income limit of $130,200.
• CHFA SmartStep – SmartStep and SmartStep+ programs provide 30-year fixed-rate FHA, VA or USDA loans and CHFA down payment assistance. There is an income limit of $130,200.
• HFA Advantage and Preferred Loans – CHFA also offers Fannie Mae HFA Preferred and Freddie Mac HFA Advantage loans for up to 97% financing. These loans can also be paired with CHFA down payment assistance.
• CHFA Down Payment Assistance – There are two types: a grant and a second mortgage. With the grant, you can receive funds for up to 3% of your first mortgage.  It does not have to be repaid, but it can only be combined with a SectionEight or a SmartStep first mortgage. 

Are You Ready?

Evaluate if you’re truly ready to be a homeowner even though you have student loans to pay back. Homeownership is both a big financial and lifestyle commitment.

You may already be handling sizeable monthly housing costs because of the higher rents in the Denver Metro Area.  You may be ready to invest that money in your own home and not a rental.

Honestly answer questions about yourself. Do you have a good job with steady income with expectations of more earning power? Do you plan to remain in the area for the next 5 years minimum? Have you been paying back your student loans each month and have some money saved? Is your DTI not too high and you’re willing to find an assistance program that could help?

Manage Expectations

As a first-time buyer with student debt, you may need to lower your expectations for your first home. You might need to consider changing locations or buy a townhome instead of a single-family house.  

Focus on getting your first home and clear that hurdle. If you do it right the first time, and are not house poor, you will be able to move up to your next home in later years.

You invested in your education and it took time to get your degree and start your career. It’s almost the same with becoming a homeowner. It takes time, but your first home can lead to your next and so on as you become more financially secure.

Questions and Planning Ahead

I am here to help you determine if homeownership is right for you now or in the near future. It does take some planning even if you don’t have student loans, so give me a call and I can come up with a plan based on your timeframe.

So, don’t let student loans slow your home buying dreams come true.  

In fact, it is possible to pay off your student loans in FULL with the equity you receive from your first home purchase. Buying a home could possibly help you pay off your student loans even more quickly!  No guarantees, but it is a possibility!

Also, if you or anyone you know is in the market for a brand new Colorado Home, be sure to check out my article on My Insider Secrets for Buying a New Home as well as my YouTube Channel where you will be able to tour lots of great new builds in the Denver Metro Area.

As always, my goal is to be your go to resource for all things real estate.

Up next week, you’ll find out why Buying a Home Is Like Falling In Love! It’s a topic you don’t want to miss.