How Can I Pay Off my Student Loans and Buy a House?
buying a house Doesn't Have To Be an impossible objective
About the author: Kevin Mahoney, CFP® is a fee-only financial advisor in Washington, D.C. Kevin's work with his clients focuses on paying off student loans, buying a house, investing savings, and budgeting. Kevin is the founder & CEO of Illumint, a virtual financial planning firm specifically designed to help couples and young families with their financial decisions.
Student loan debt is difficult to manage on almost any budget when you’re in your 20s and early 30s. This stressful process becomes even more acute, though, when you become interested in achieving other financially driven life goals, such as buying a house. For many individuals and young families with long student loan repayment roads still ahead of them, buying a house may seem like an impossible objective. With that in mind, let’s review a few of the considerations that go into pursuing a homeownership goal.
Is Now the Right Time to Buy a House?
The best starting point, and arguably the most overlooked aspect of this process, is evaluating whether buying your first home actually makes sense for your life. Ben Carlson, author of the Wealth of Common Sense blog, explains why, despite our homeownership-obsessed culture, buying a home sooner rather than later isn’t necessarily a prudent move:
“I think the idea of buying a starter home is one of the worst moves you can make financially as a younger person. Buying a starter home will likely cost you way more money in the end as opposed to waiting until you’re ready for a more high-quality home. Around 70% of your mortgage payments in the first 5 years will go towards interest costs on your loan, so you build up very little equity in a starter home by the time you’re ready to move. Then you end up spending a ton of money trying to fix the place up. And when you do decide to trade-up to a nicer place you end up paying closing costs and realtor fees. In the majority of cases, it will prove to be a far better move to rent for a few more years and save enough money until you can afford a nicer house. At that point the pros far outweigh the cons because of the sense of community, place to call your own and the psychic income involved.”
Ben’s perspective describes the situation of many young adults who may not be ready to commit to the city in which they currently live, but nonetheless feel pressure from family members or the media to purchase a house to mark the next phase in their lives. Finance and housing professionals often suggest that if you can’t commit to living in a new house for at least five years – and perhaps as many as seven years – then you may not recoup the costs that such a purchase required.
The Hidden Costs of Owning a House
Even if you’re set on your location, you need to make sure you truly understand what homeownership entails from a financial standpoint. As the SOFI team points out:
“If you’re a lifelong renter, you may not be aware of all the costs that come with owning a home, most of which your landlord likely pays. Affording homeownership doesn’t just mean saving for a down payment and closing costs — it also includes preventative maintenance, emergency repairs, and all the other little expenses that come with homeownership.
Some people say homeowners should set aside 1% of their mortgage for general maintenance and repairs every year. So if your hypothetical house costs $200,000, that means you might want to save $2,000 a year—maybe even in a separate savings account. A dedicated savings like that certainly can come in handy when you need a new roof or when the water heater breaks.”
Obtaining a Mortgage while Repaying Student Loans
Once you confirm that buying a house makes sense for your personal situation, then you’re ready to evaluate how your student loans may impact your ability to obtain a mortgage. Annie Nova reported for CNBC reported in April 2018 on a Federal Reserve study showing that, “For every 10 percent in student loan debt a person holds, their chance of home ownership drops 1 to 2 percentage points during their first five years after school.”
Christy Rakoczy at Student Loan Hero offers more detail about how you can determine whether you’re financially able to balance both student loan and mortgage payments. She offers the following checklist:
Your debt-to-income ratio is sufficient (less than 28%)
You’ve saved up a sizeable down payment (20% or higher)
You make enough money to cover the costs that accompany home ownership (In other words, you don’t want to make yourself ‘house poor.’)
You could get more for your money than from renting (particularly relevant in markets with high rental demand or low supply)
You have a low-interest student loans
What if you face a situation in which you need to make some progress on your student loan repayments before your debt-to-income ratio looks good enough for a mortgage? Robin Saks Frankel at Bankrate notes that, “If you don’t have the cash to pay down a big chunk of your [student loan] debt, consider refinancing your other loans to reduce the amount you have to pay every month.”
She quotes John Moffatt, the head of loan originations at Better Mortgage: “It’s important for would-be homeowners to remember that we look at your monthly debt commitments, not the total amount of debt outstanding, so if you can reduce the monthly amount you have to pay to cover your debt commitments through refinancing your loans or paying off a credit card or two, this can help.”
In addition, Saks Frankel describes three new policies that Fannie Mae introduced in April 2017 to make buying a home more attainable for student debt holders:
“Student loan cash-out refinance: offers homeowners the flexibility to pay off high-interest student debt while potentially refinancing to a lower mortgage rate.
Debt paid by others: excludes from the borrower’s debt-to-income ratio non-mortgage debt, such as credit cards, auto loans and student loans, paid by someone else.
Student debt payment calculation: allows lenders to accept student loan payment information on credit reports, making it more likely for borrowers with student loan debt to qualify for a mortgage.”
The Value in Seeking Early Guidance
For most people, the decision about whether to buy a house while repaying student loans includes enough variables to create headaches from the outset. The College Investor argues that asking for help can reduce some of the stress you feel:
“When should you talk to your lender? Right away. You can contact a lender before you even talk to a real estate agent. In fact, we recommend it. That way you can get an accurate picture of your price range and not waste time looking at — or getting attached to — homes you couldn’t possibly afford.
Your lender can let you know what steps you need to take to be able to successfully secure a mortgage with their company. They should at the very minimum talk to you about how high your credit score should be, viable down payment amounts, and your debt-to-income (DTI) ratio.”
He adds, “Your lender can also introduce you to federal or state programs that provide specialized mortgages with lower down payments, grants for down payments, or other ways you can save money. For example, FHA and VA loans require a smaller or no down payment.”
If buying a home in the next few years truly is an important goal for you and your family, your student loans don’t need to force you to postpone that day indefinitely. With some research, calculations, and ongoing conversations with housing and finance professionals, you may learn that the steps you need to take to reach that point aren’t as drastic as you imagined.