Student loans made buying a home a difficult experience. Mortgage underwriters seemed to devise new and creative accounting methods in order to inflate my student loan payments so that I couldn’t qualify for a mortgage. After working with a couple different mortgage companies, I finally found a lender that seemed to understand how income-driven repayment plans worked. I was one of the lucky student loan borrowers that was able to buy a house.
The following year when interest rates dropped I attempted to refinance my mortgage. I reached out to two lenders who offered excellent rates. I was told my student debt wouldn’t be an issue. Later on in the mortgage process both lenders changed their tune. Underwriters decided that I had too much debt and was too much of a risk.
In the couple years that have passed since my foray into home ownership, things have gotten better for perspective homebuyers who happen to have student loans. Mortgage heavyweights Fannie Mae and Freddie Mac changed how they treat income driven repayment plan payments for purposes of calculating debt-to-income ratio. Under the new rules, I’ve been able to refinance.
The changes to underwriting standards give student loan borrowers a better shot at getting a loan, but it requires a bit of planning.
Getting a Mortgage vs. Refinancing
Before jumping into the specific strategy behind the mortgage refinance process, it is important to take a look at a couple key differences between getting that first mortgage and refinancing the home loan.
When qualifying for a mortgage, homebuyers will usually work with a local lender that has a good reputation for closing on time and following through on their promises. Reputable local banks and mortgage brokers may not always offer the best interest rates, but the security offered makes them a smart choice. The timing of a home purchase is normally driven by personal factors such as job status, down payment savings, and geographic stability. Market interest rates might get some minimal consideration, but the decision to buy is normally driven by other factors.
When it comes to refinancing a home, interest rates are king. Potential borrowers what to know who has the best rates and who can close the cheapest. Working with a reputable local bank becomes less important and finding the best deal is the priority. If a refinance falls through at the last minute, the homeowner doesn’t lose out on their home, they just have to move on to a different lender.
Spend a few minutes on Zillow and it will become clear that the companies offering the lowest mortgage rates are not the traditional home loan lenders. Instead, they are specialists focuses on refinancing as many homes as possible with minimum time spent on any individual deal.
Getting Student Loans Ready for a Mortgage Refinance
In the world of home loan refinancing, speed and efficiency are critical to the high volume refinance companies.
With this in mind, it is important to have your ducks in a row on the student loan front. For borrowers with federal student loans, this means already being enrolled in the preferred repayment plan for a couple of months. Prior enrollment is important because you want your credit report to be showing an accurate monthly payment.
Like the strategy for qualifying for a first home loan, borrowers should look to lock in the lowest possible monthly payment. For many, this means an income-driven repayment plan. Lenders will now accept very small monthly payments for underwriting purposes, even if the borrower has very large loan balances.
The exception is that a $0 payment can be a potential hurdle. This is because a $0 payment may look like a deferment or a forbearance. Some lenders will assume the monthly payment is 1% of the total student loan rather than accept a $0 per month payment.
The idea is to have a credit report that shows a federal student loan borrower with a simple easy to manage monthly payment on their student loans. (Borrowers with private loans may want to refinance on a 20-year loan to lower monthly payments as well.)
Once the credit report is showing the smallest monthly payments possible, a borrower can start the refinance process.
Starting the Home Refinance Process
Like refinancing student loans, the key to refinancing a home loan is to shop around.
Rates change often and throughout the day, so it can be tricky to find the best option. One tool that helps is following the 10-year bond. Mortgage rates will generally move up and down with the 10-year treasury bond yield. Most financial sites make tracking the 10-year bond pretty easy.
When the 10-year bond dips, it is time to investigate rates with different lenders.
As someone with six-figures of student loan debt, the first question I always ask is related to this debt. The mortgage lenders should have a pretty good understanding of their underwriting process. The lenders that are picky about student debt should be upfront about their approach because they don’t want to waste their own time or yours.
Once the discussion regarding student loans has been covered, the debt shouldn’t be an issue going forward.
The mortgage companies are starting to get a better understanding of student debt, but they are not experts. Don’t expect a lender or broker to understand the differences in income-driven repayment plans or how they work. With most lenders, if the credit report shows a manageable monthly payment, they will be satisfied. If extra explanation is required, things will quickly become difficult.