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Getting an FHA mortgage when you have student loans [2017]

May 31, 2017

So you got the degree, got the job (and several more after that), ran up some debt, messed your credit up, had a coming to Jesus moment (or two), and then started saving and rebuilding your credit.

Now you’re looking to buy a home.

Chances are you likely don’t have 20% to put down on a home. But you want a home. So what do you do?

You try and get an FHA loan.

What’s a FHA loan

An FHA loan is a home loan that’s insured by the Federal Housing Administration, which is a subsidiary entity of the US Department of Housing and Urban Development. And HUD, as you know, is ran by it’s secretary, this dude:

So, umm, yeah. But anyways.

Why choose a FHA loan

Basically, your lender likes a FHA loan because if you default, the government steps in and pays your lender.

You like an FHA loan because it allows you to get a mortgage with a down payment of as low as 3.5%.

To qualify for an FHA loan, you have to meet several requirements. One of which is having an acceptable debt-to-income ratio. And that’s hard to do, when you have student loans.

But it’s not impossible to qualify for an FHA loan even when owe several thousand in student loans.

Let’s talk about how to get you qualified.

But first, let’s start with this:

How your student loans are factored in to your FHA mortgage

As you know, your lender must include your student loan payments when calculating your debt-to-income ratio. They must do this because the FHA Single Family Housing Policy Handbook 4000.1 compels them to do so.

That handbooks says your lender can can calculate your DTI with your student loans by taking the greater of:

  • 1% of your outstanding loan balance or
  • Your actual documented payment.

Here’s an example of how that works.

Let’s say your outstanding loan balance is $100 thousand. You’re currently repaying your loans under the income-based-repayment plan. Your monthly payment under the IBR plan is $200.

In that situation, your lender won’t use your $200 payment. Instead, it will use $1 thousand as your monthly payment ($100 thousand x 1%= $1 thousand). It will do that because 1% of your outstanding balance is greater than your actual documented payment.

As you can see, that rule sucks if you’re repaying your loans under an income driven repayment plan. Sure, IDR plans are awesome. They give you a super low payment based on your income. But when it’s time for you to buy a home, the IDR payment won’t help you qualify for an FHA loan.

So what do you do then?

How to avoid the 1% FHA student loan rule

You can stop your lender from using the 1% rule by switching your repayment plan.

Here’s what I mean.

Your lender can use your actual documented payment even if that payment is less than 1% of your outstanding balance. For your lender to do that, your actual documented payment must fully amortize (payoff) your loan over its term.

So how do you do that with federal student loans?

You start repaying your loans under a repayment plan that fully amortizes your loan while giving you a low monthly payment. You can do that by switching to a graduated plan or an extended graduated repayment plan. Both of those plans give you at least 25 years (30 years in some cases) to repay the loan.

(Yes, this means you may have to switch (temporarily) from your lower student loan payment under an income driven repayment plan. But hey, this is the cost to get what you want. So…)

Generally speaking, you’ll get a lower monthly payment under the extended graduated plan than you would under the graduated plan.

But not everyone is eligible for the extended plan. You can check your eligibility for federal student loan repayment plans by using the repayment estimator.

How to switch to a graduated or extended repayment plan

Switching to a graduated or extended repayment plan is pretty simple. Just contact your student loan servicer. They’ll be able to help you get into the right plan.