Getting denied when you apply for private student loan refinancing is a devastating blow. You are trying to take action to pay off your loans responsibly, and instead of taking a step forward, you take a step back.
If there is any good news in this situation, it is in the fact that it is temporary. A rejection today does not mean you will never be approved. It just means that today was not your day. If you can channel the disappointment you feel right now into some motivation; you can significantly increase your odds of approval.
Before you begin tweaking your numbers, it is crucial to keep a couple of things in mind.
Lenders are not running a charity.
Remember all those smiling faces in the ads and on the lender websites?
Don’t be fooled.
These guys are not in business to see how many smiles they can put on faces. They are in business to make money. That means that getting approval isn’t about showing that you can pay off your debt; it is about showing that you should easily be able to pay off your debt.
Go after the numbers that matter.
Your odds of approval all revolve around three key numbers. The first two are obvious: your credit score and income. It is the third one where most borrowers can make some real progress. This final key number is your total monthly minimum payment, as reported on your credit score.
Most people have heard of a debt-to-income ratio. It sounds simple, how much you owe compared to how much you make, but it isn’t that easy. The total amount of debt that you have is of minor significance to your application. The critical number is how much you have to pay each month on your debt.
Lenders want to see that you can comfortably pay your bills each month. If the minimum payment on all of your debts is low, it will appear much easier to pay off your debt.
The specific lender you choose to work with will also matter. In our most recent lender survey, we found that debt-to-income ratios needed to be eligible to refinance varied dramatically from one lender to the next.
The Trick: Targeted Elimination of Certain Debt
Complete elimination of certain debts is a very powerful way to improve your debt-to-income ratio and your odds of approval. In some circumstances, it may mean paying off a loan that you might otherwise just be paying the minimum.
Most people realize that paying the minimum on all debts except one is the most efficient way to pay off your loans. By focusing your efforts on one single debt, you can quickly eliminate it, and by doing so, you free up extra cash each month to knock out the next loan. Finance experts typically suggest paying off the highest interest rate debt first (because it will save you the most money in the long run) or paying off the debt with the lowest balance first (because it gives you an easy win and motivation to continue your battle against debt).
When it comes to eliminating debt to improve your consolidation application, you may not want to go after the high interest or low balance debt first.
Suppose you have the following three debts on your credit report:
- Student loan A: Interest rate 4%, balance $6,000, monthly payment $100.
- Student loan B: Interest rate 11%, balance $20,000, monthly payment $350.
- Car loan: Interest rate 6%, balance $7,000, monthly payment $300.
The experts will tell you to go after student loan B, because it has the highest interest rate, or student loan A, because it has the smallest balance. However, if you really want to improve your refinance application, paying off the car loan could get you the most bang for your buck.
If you pay off student loan A, it will cost you six grand, but your monthly bills only improve by $100. Alternatively, if you attack student loan B, by the time it is paid off, refinancing will no longer be of any real value as you are left with low interest low balance debt. Instead, paying off the car loan only costs slightly more money than student loan A, but when you have it paid off, your monthly debt bill drops by $300. This number falling off your credit report is a dramatic change, and it could be the difference between rejection and approval.
When should I use this trick?
It all comes down to the math. If paying off a lower interest loan quickly can help you reduce the interest on the rest of your loans, it might be worth pursuing.
The only way to know if this approach is best for you is to make a spreadsheet and compare the different plans. You should also keep in mind that paying off one debt does not make getting an approval a sure thing. Talk with the lenders you are interested in working with to see how close you are to an approval. If an improvement in your debt-to-income ratio is what you need, this plan could help.
Side Note: An Added Benefit
This approach is also a pretty powerful tool for mortgage applications.
If you can eliminate a high monthly payment debt before applying for a mortgage, you will be able to afford a higher house payment. It could be the difference between affording the house you want and getting rejected.
Look Around Before Making Dramatic Changes
Before you make any dramatic plans to adjust your credit application, keep in mind that there are many different lenders offering refi services. A rejection with one lender does not mean you can’t borrow from anyone. In fact, it could just mean that you haven’t found the right lender for your situation. Different lenders have different specialties. For example, while SoFi caters towards high earners with significant debts, a company like Earnest looks at far more financial information, such as retirement savings, before making a decision.
Ultimately, the more you understand about credit approval decisions, the smarter you can be about turning your rejection into an approval.