In 2016, the Federal Housing Administration mandated a tough rule on homebuyers that particularly affected those with student loan debt.
FHA required lenders to count as a monthly expense either the monthly student loan payment or 1% of the loan balance, whichever was higher. For instance, if a buyer had $100,000 of student loan debt, an FHA loan would state the buyer pays $1,000 per month toward student loans.
But this year the FHA made a significant change. It now requires the lender to count 0.5% of the student loan debt. Using the example above, that means the buyer needs to state only $500 per month toward student loans.
Given that overall debt is a huge factor in being approved for a home loan, the new “0.5% rule” is a game changer for anyone with student loans.
In announcing the change in June, the Department of Housing and Urban Development, which oversees FHA, said HUD is “adjusting the policy options available for calculating the monthly obligation of student loan liabilities. These changes seek to further HUD’s mission of providing access to credit, while ensuring Borrowers maintain a long-term ability to repay their debt.”
Student loans come into play for other loan types, too:
For conventional loans backed by Freddie Mac, the following information applies to student loans that are in repayment, deferment or forbearance.
- If a monthly student loan payment is greater than zero, the lender will use the monthly amount listed on the credit report or other amount the report lists.
- If the monthly payment listed on the credit report is zero or unknown, the lender will use 0.5% of the outstanding loan balance listed on the credit report.
For conventional loans backed by Fannie Mae, if a monthly student loan payment is provided on the credit report, the lender may use that amount for qualifying purposes.
If the credit report does not reflect the correct monthly payment, the lender may use the monthly payment that is on the student loan documentation.
If the credit report does not provide a monthly payment for the student loan, or if the credit report shows zero as the monthly payment, the lender must determine the qualifying monthly payment using one of the options below:
- If the borrower is on an income-driven payment plan, the lender may obtain student loan documentation to verify that the actual monthly payment is zero. The lender may then qualify the borrower with a payment of zero.
- For deferred loans or loans in forbearance, the lender may calculate a payment equal to 1% of the outstanding student loan balance (even if this amount is lower than the actual fully amortizing payment), or a fully amortizing payment using the documented loan repayment terms.
Finally, for Veterans Administration (VA) loans, if the borrower provides written evidence that the student loan debt will be deferred at least 12 months beyond the date of closing, a monthly payment does not need to be considered.
If a student loan is in repayment or is scheduled to begin within 12 months from the date of VA loan closing, the lender must include the student loan payment in the debt-to-income ratio.
To determine the student loan amount to include in the ratio, the lender will use either the payment on the credit report or the “threshold payment,” whichever is greater. The threshold payment is calculated by taking 5% of each loan balance divided by 12 months.
For example, if the outstanding loan balance is $6,000, the threshold payment is $25. The lender compares that number to the payment on the credit report and picks the larger number.
Buying a home while managing student loans is a challenge many homebuyers understand all too well. The updated FHA rule and other loan options make the prospect of homeownership a reality for many more people in 2021 ― and that’s a good thing.
Shikma Rubin, NMLS ID #1114873, is a loan officer with Tidewater Home Funding, LLC. in Chesapeake, Virginia. She enjoys the chance to lead workshops and webinars on how to buy a home. Have mortgage questions? You can reach her at email@example.com or 757-490-4726. This article was originally published on The Virginian-Pilot on August 10, 2021: https://bit.ly/2WyJv50.