1 out of every 8 people have student loan debt in the United States. There is 1.748 TRILLION dollars of student loan debt in our country. That’s insane, but it’s the situation we’re in.
It’s one of the reasons why the recent FHA student loan guideline updates are big deal. Before the update, FHA was one of the least friendly mortgage options for anyone wanting to buy a home that had student loans.
New FHA Student Loan Guidelines Release on June 6th, 2021
FHA released an update to the way they calculate student loan payments in June of 2021 and it was a huge improvement. The update covers specifically how they will now handle loan that have an IBR (income based repayment plan) and those that are deferred.
How FHA Student Loans Were Calculated Prior to June 2021:
When dealing with loans in IBR or deferment before the FHA student loan guideline update, lenders were required to use 1% of the total balance of student loans owed.
This means if you had the average student loan debt of 28,000 we would have to apply a monthly payment amount of $280.00
Now this doesn’t mean that your student loan would then charging you $280 per month because you applied for a home loan. It means that we would have to treat your loan like it had a $280 a month payment.
This is important because it will affect home much of a mortgage you are able to qualify for, which means it will affect the price of the homes you can be approved for.
NEW FHA Student Loan Guidelines
Now since the update the amount of people that will qualify for FHA loans who also have student loans is going to increase. This is because lenders no longer have to count 1% of your student loan balance as a payment.
If the amount of the payment on your credit report is $0, then we will use .05% of the loan balance (or half) of what the old amount was.
If you have a payment on your credit report that is greater than $0 we can use that payment. This is huge news for those in income based repayment plans.
So with the new guidelines, if you have a payment of $100 on your credit report, and you owe the same $28,000 discussed earlier, then that is the payment the lender will use.
If you have a payment of $0 then the lender will multiply your balance x .5% to come up with your payment.
So sticking with the same example; $28,000 x .5% = $140 per month. Which is HALF of what it used to be. Good News!
Why Does the Way Lenders Calculate Student Loans Matter?
The amount of monthly debt you have to pay each month is a huge factor in how much a home loan you’ll be approved for.
If you have an additional $150 that your lender now has to count against you because of student loans, that can reduce your purchasing power by $50,000 or more.
There is a big difference in what you are able to purchase at $150,000 and $200,000. $50,000 in purchasing power is a big difference especially if you live in a larger city of 100,000 people or more, or if you live in an expensive housing market.
The reason monthly debts affect your purchasing power is because of something called DTI. DTI is you debt-to-income ration and it tells the lender if you are spending more money each month than you should.
The higher your monthly debts, the higher your DTI is going to be.
The Different Types of Student Loan Repayment Plans
Fully Amortizing Payment Plan
The fully amortizing payment plan is when your student loan payments each month will pay off the student loan at the end of the term. Many student loans have a repayment plan of 10 years.
This means that you student loan balance will be repaid if you make equal monthly payments over 10 year or 120 months.
Graduated Repayment Plan
A graduated repayment plan follows the same 10 year term as the fully amortizing payments plans but for the first 1-2 years your payments are less.
After the first 1-2 years those payments will begin to increase so that you can reach full repayment within those 10 years.
Income Based Repayment Plan
There are a few different types of income based repayment plans, but most of them have the same features which I will cover here.
An IBR repayment plan is one in which you repay your student loan based on your current income level. This is typically between 10-20% of your expected discretionary income adjusted for family size.
Since most of these payment plans aren’t enough to fully cover the loan (or the rapidly increasing interest) borrowers in this type of program usually have their loan forgiven in 20 to 25 years.
If you are still in school or just finished school you may qualify to have your student loan payments deferred. Deferment usually lasts until you have completed school or for 3-4 years after graduation.
It’s important to know that interest is still accruing on the loans even in deferment, so be wise when using this.
Forbearance or Hardship
Forbearance or Hardship is when the lender allows you to suspend making payments on your student loans for a specified period of time due to event in your life. Usually forbearance is allowed for up to 12 months and then you’ll need to resume some type of repayment plan.
Why Are FHA Loans So Popular?
The biggest reason why FHA Loans are so popular is because they are extremely flexible. Now with the new student loan guideline updates, they are even more flexible and fall in line with the way other loan programs calculate student loans. ‘
FHA Loan Has Low Down Payment Requirements
FHA loans offer buyers the ability to buy a home even if they’ve had past credit issues. If you have credit score of at least 580, you can purchase a home using an FHA loan and you only need 3.5% down!
If your credit score is between 500-579, you can still finance a home using the program but you’ll need 10% down to do so.
FHA Has Flexible Credit Requirements
FHA is also flexible on past credit issues. If you have late payments, collections or charged-off accounts you can still qualify.
If you’ve filed bankruptcy or had a foreclosure or short-sale, FHA has the shortest waiting period available.
FHA loans were created to help low to moderate income families buy homes and so it is one of the easiest loan programs available.
FHA vs. Conventional Student Loan Guidelines
How does FHA compare to Conventional loans when it comes to student loans?
When understanding how to calculate your student loans when using conventional loans, it will depend on which program you are using.
- Allows you to use a $0 IBR repayment with documentation from your student loan servicer.
- If the payment on your credit report is fully amortizing you can use what’s on the report.
- If loans are in deferment or forbearance you must use 1% of the loan balance
- Allows you to use IBR payments on your credit report as long as it’s not $0.
- If payment is $0 on credit report must use .5% of the balance as a payment.
- Loans in IBR or Forebearance must also use .5% of the balance as a payment.
Do I have to count my student loans if they are deferred?
Yes. If your student loan payments are currently deferred you will still need to count them into your monthly debts. Most loan programs will require you to use .5% of the balance as a monthly payment when attempting to qualify for a mortgage.
What if I have late payment or my student loans are defaulted?
Late payments on student loans will affect your credit score. When you have a late payment you can see your score drop from 10-50 points or more.
The first thing is that if your student loans are still currently late, you must bring them current before applying for a mortgage. You cannot have any loans that are past due when applying for a mortgage.
Once they are brought back current, you still may face difficulty in getting an automated approval, especially if they were more than 30 days late. You may have to consider manual underwriting if that is the case.
If your student loans are in collections then you won’t be able to get approved for a mortgage. First you’ll need to bring them out of collections.
The good news is that in our experience the student loan companies are usually very willing to negotiate with you, get the loans out of collections and on to a payment plan that you can afford.
While this might take a few months, it’s worth doing so that you can own a home of your own if you find yourself in this situation.