If student loans have held you back from getting a FHA mortgage, there’s some good news: the Department of Housing and Urban Development (HUD) is relaxing the rules on how it assesses student loan debt, which will increase your chances of qualifying for a loan if you’re on a repayment plan.
What are the new FHA rules for student debt?
HUD has removed a requirement that calculated a borrower’s monthly student loan payment as 1% of their outstanding student loan balance for loans that aren’t fully amortizing, whether that’s from deferment, forbearance, or from repayment plans. In other words, despite being approved for smaller monthly payments, borrowers were judged based on 1% of their outstanding loan, which is often a much higher number. The Wall Street Journal has a good example of this works:
Deitric Selvage is among those harmed by the way his student debt is calculated. With more than $200,000 in student debt, Mr. Selvage said he was disqualified for an FHA loan because the program assumed he pays about $2,000 a month in student-debt repayments, far more than the roughly $370 he actually pays.
With the change, your monthly debt calculation will now be based on what you actually pay. This is important because qualifying for an FHA loan depends on your monthly debt-to-income ratio (DTI), which is your monthly debt payments (student loans, credit cards, mortgages) divided by your pre-tax monthly income. With a FHA loan, the DTI needs to be 43% or less before you can qualify, although it varies based on credit score.
In many cases, the DTI rules are too prohibitive for borrowers with steady income that consistently pay off their loans. For example, if you earn $4,000/month and spend $1370/month on loans (including, say, $370 on student loans), that would be a DTI of 34%. However, under the old rules, 1% on $200,000 in student debt would have been counted as $2,000/month, bumping your DTI up to 75% —not even close to qualifying for the loan.
How to apply for an FHA loan
The FHA mortgage loan is designed for low- to middle-income families, and as such you can qualify with a poor credit score and a down payment as low as 3.5%, although the total loan amount is less than what you can get with a private lender. If you’re not sure an FHA loan is right for you, check out this Lifehacker post that will walk you through the differences to private loans. For more information about applying for an FHA loan, click here.