Michaela Phillips, Guaranteed Rate, Inc.

Michaela Phillips, Guaranteed Rate, Inc.

Homebuyers with student loans in deferment are often surprised when they begin the mortgage application process and realize that their deferred loan will be treated as monthly debt, making their debt ratios too high to qualify for a mortgage. Many borrowers overlook their debt-to-income ratio and focus exclusively on their credit scores and getting a low interest rate, but debt is an important factor that lenders consider when approving a mortgage. Here’s what you need to know about how student debt will impact your ability to get a
home mortgage.

How are deferred student loans treated in the mortgage process?

In the past, deferred student loans have been omitted from a borrower’s debt ratio when qualifying for a mortgage as long as the lender could document that the loan would be deferred for a minimum of 12 months. However, things have changed. Now, loans must be included in a borrower’s debt ratio, even if they are deferred or the borrower is still in school. This, of course, is seen by the regulators (such as Fannie Mae, Freddie Mac, FHA, and VA) as a way to keep the borrower from being overextended once the student loan debt payment kicks in.

There are two kinds of debt-to-income ratios: front end and back end. The back-end ratio shows what portion of your income is needed to cover all of your monthly debt obligations. This includes student loans, as well as credit card bills, car loans, child support, and any other debt that requires monthly payments. The ideal back-end ratio, including all expenses, should be 45 percent of your monthly take-home income or lower.

For all student loans, whether deferred, in forbearance, or in repayment (not deferred), the lender must consider a monthly payment in the borrower’s recurring monthly debt obligation when qualifying the borrower. Each lender has its own guidelines around how to determine the repayment amount:

FHA
To determine the debt repayment amount, FHA loans consider:
– One percent of the outstanding balance on the loan or the monthly payment reported on the borrower’s credit report, whichever is greater,
– OR the actual documented loan payment, provided the payment will fully amortize the loan over its term.

Fannie Mae and Freddie Mac
These loans consider:
– One percent of the outstanding loan balance;
– the actual payment that will fully amortize the loan(s) as documented in the credit report, by the student loan lender, or in documentation supplied by the borrower;
– a calculated payment that will fully amortize the loan(s) based on the documented loan repayment terms; or
– if the repayment terms are unknown, a calculated payment that will fully amortize the loan(s) based on the current prevailing student loan interest rate and the allowable repayment period.

VA Loans
VA loans allow deferred payments over 12 months to be excluded – a huge bonus for borrowers!

This means that if student loan repayments are scheduled to begin within 12 months of the home closing date, lenders should consider the anticipated monthly obligation in the loan analysis.  If the borrower is able to provide evidence that the debt may be deferred for a period outside that timeframe, the debt need not be considered in the analysis.

If you are a homebuyer with student loan debt, be sure to consider these guidelines before you start the process of looking for a home mortgage.

Michaela Phillips is the Vice President of Mortgage Lending at Guaranteed Rate, Inc. Contact Michaela at 303.579.5517, e-mail michaela@michaelaphillips.com or visit michaelaphillips.com. NMLS:312874.