A Dream Deferred . . . No More
In many of my past newsletters, the title has been a little cryptic or you had to dig into the body of the missive to see what I’m talking about. I’m sure there are some weeks when you finish reading the newsletter and say, “I still don’t know what Capuchin monkeys have to do with The Fed, but oh well.” Well, this week, I’ll get right to it. I’m going to talk about “deferred” student loans.
Naturally, if someone’s student loans are “deferred”, that means they don’t have to pay on them at the present time so their monthly income is freed up for life’s necessities (like rent, food, clothing, etc.) and occasional luxuries (like a vacation, a new outfit, a Slurpee, etc.). Well, that’s PARTIALLY true. When you’re thinking about purchasing a home, even if your student loans are “deferred”, and they’re not costing you anything right now, they could be costing you the ability to get a nicer home. Let me explain it very plainly:
If someone has $25,000 in combined student loans that are deferred, a loan originator has to take 1% (on a conventional loan) of that amount, which is $250, and subtract it from a borrower’s monthly income when considering her/his ability to pay a monthly mortgage. In other words, if a borrower with deferred student loans has $4,000 in monthly income, the underwriter is only going to allow that borrower to qualify for a mortgage based on a monthly income of $3,750 (a simplification of the term “debt-to-income ratio” or DTI) – it doesn’t matter that the loans are deferred, the underwriter is going to subtract out that 1%.
Let me put this in a little different perspective: on a 30-year loan at a 4% interest rate, a borrower can get a mortgage for over $40,000 higher with that $250 difference in their DTI. Review the listings for a single neighborhood and note the difference between a $300,000 house and a $260,000 house. Makes sense, right? So, what the heck?! If they’re deferred, why are they still counting against a borrower? We could debate that all night long, but we’d be better off trying to explain the reason behind Justin Bieber’s popularity.
The government HAS offered some help that every prospective buyer who has student loans should seek out RIGHT NOW. It’s called the Direct Loan program, and the part that affects potential home buyers works like this: they obtain a letter from the Direct Loan program that acknowledges that they have student loans totaling $XXX, but their payment is $0.00 at present. This satisfies the underwriters and enables the loan originators to NOT factor in ANY of the loan amounts when calculating DTI – and the borrower gets a better house!
There are some upcoming changes to the way underwriters will be factoring student loan debt into their calculations for DTI, so the sooner a borrower pursues the Direct Loan option the better. We’re happy to field any questions and offer any assistance in this process – it’s not rocket science, and it’s certainly easier than addressing the Justin Bieber question, that’s for sure!