Student debt and homeownership – the conundrum continues

The July 31, 2017 headline on forbes.com heralded good news: “New Rule Makes It Easier To Get A Mortgage With Student Loan Debt.” Forbes contributor Nick Clements, a finance industry veteran, outlined a change in Fannie Mae’s underwriting rules that appeared set to help people on income-based student loan repayment plans by eliminating a longstanding barrier to qualifying for a mortgage.

Not so fast. Nearly a year after Clements’s rosy prediction, those involved in the homeownership process at Appalachian Community Federal Credit Union (ACFCU) can tell you: People who are otherwise qualified and ready to take on a mortgage are being stymied by how student debt is treated in the process. (Important caveat: This is a complex, some might even say intractable, problem, and I believe institutions, Fannie Mae included, want to find a solution to it.) 

 “I’ve coached two different couples with major student debt who have taken action items to lower their debt portfolio, pay some things off, consolidate some things, find equity in some assets,” ACFCU Financial Coaching Specialist Adam Taylor says. “But it turns out the student debt is still preventing them from taking the next steps to homeownership.”

It’s happened time and again, Taylor says. Here’s how it works – or doesn’t, rather:

A client has worked hard to put all the pieces in place for a mortgage. She has an income-based monthly student loan payment of, say, $150. Rolled in with her other debt, that $150 leaves her able to afford a house payment that can get her into a good starter home, but her total student loan principal is $75,000.

The $150 payment would, in most situations, be added in to calculate her debt-to-income ratio, or DTI. Most mortgage lenders allow total DTI, including auto loans and any other debt, in a maximum range of 40 to 45 percent.

In the case of student debt, though, if the borrower can’t show proof the current payment will be in place for at least three years, the calculation for DTI is based on 1 percent of the total loan principal. And most student loans on income-based repayment are recalculated every year.

With this Catch 22 in play, our theoretical borrower’s DTI availability takes a $600 hit. She’d been eligible for a house payment of up to $900 with the $150 figure. That has now dropped to $300. Here in Central Appalachia, $900 a month can get someone a decent house. $300? Not so much.

It’s discouraging, Taylor says.

“They feel overwhelmed by their student debt when this housing issue comes up, and they realize there’s no real answers or way out of it.”

Indeed, it’s not that the people in question are having trouble paying their income-based payments. They’re doing everything responsibly, and often they’re in the type of careers that make that income-based payment unlikely to adjust dramatically. And if that payment did increase, it would be in concert with an overall income increase that should keep the borrower’s DTI in a fairly tight range anyway.

Thus the Forbes story, and many others that are as close as a basic Google search. Few dispute that a problem exists. Folks with ACFCU’s mortgage origination team encounter the problem too, and say that despite frequent chatter that underwriting standards are going to address it, so far little has changed.

Taylor says people shouldn’t give up. Some institutions offer “in-house” mortgage options that can provide solutions. In fact, ACFCU leadership is working hard to find innovative ways the credit union can address this situation. Student loan servicers are easy to work with, too. His advice?

“Be as strategic about it as you can, understanding the income based repayment options and avoiding the rumors about those things.” 

And hope that someday, policymakers and underwriters find a practical way to adjust the current reality that is holding back many otherwise qualified people from the bulk of the mortgage market -- and the primary path to asset building in this country.

(Jeff Keeling is vice president of communications and community relations for Appalachian Community Federal Credit Union.)