Student loans can help you achieve your educational dreams, but they can also have lasting effects on your personal finances.
The short answer is yes. Borrowers with student debt eager to take out a new loan may discover that student loans can drag on their debt-to-income ratio (DTI), which is a factor lenders examine carefully before issuing new loans. Luckily your DTI isn’t set in stone, and with a little effort, you can decrease it while increasing your chances of approval for a new home loan.
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What Is Debt-to-income Ratio?
Debt and income are two sides of the same coin. One side (income) represents the regular money you have coming into your accounts, and the other (debt) is the regular money you have flowing out.
Your DTI is represented by your regular monthly debts divided by your gross monthly income and expressed as a percentage.
For a W2 wage earner, our gross monthly income is the amount of money you make each month before taxes and other deductions are taken out. For self-employed individuals net income may be used.
Here’s a hypothetical situation that you can work through using a calculator and a pen. Say you have $300 each month in student loan payments, $500 in auto loan payments, and $700 in other debts. Your total debt each month is $1,500. If you’re making $4,500 a month (gross), your DTI is $1,500 divided by $4,500, or 33%. If you’d like a little extra help calculating your DTI, you can use an online calculator . Keep in mind that not all income sources are eligible to use for loan qualifying.
Lenders look at your debt-to-income ratio, among other factors, to help them figure out whether you will comfortably be able to make regular payments on new debts.
If your debt-to-income ratio is on the lower end, a lender may take that as a sign that you’ll have an easier time paying back a new loan. On the other hand, according to the Consumer Finance Protection Bureau , “Evidence from studies of mortgage loans suggest that borrowers with a higher debt-to-income ratio are more likely to run into trouble making monthly payments.”
DTI is the ratio of your total debt to your income. So, that’s where student loans factor in—they are part of your debt when calculating that ratio. It’s also where credit card debt, car loans, and any other consumer debt would come into play. To find your DTI, you’d want to add up all of your debts (student loans, credit card, mortgage, etc.) and then divide by your qualifying gross income.
What is the Ideal Debt-to-income Ratio?
There are a few general rules of thumb surrounding ideal DTIs. A DTI of 43% is typically the highest you can have and still receive a qualified mortgage . Though 43% DTI maximum is generally the accepted range, especially for non conforming loan amounts, lenders will examine other factors such as credit score, savings and the size of your down payment when determining an acceptable DTI.
LoweringYour Debt-to-income Ratio
If you have student loans and you’re thinking about taking on other debt, such as a mortgage, take a hard look at your DTI. If it’s less than ideal, there are a number of options you can pursue to lower your ratio.
First, you can try to increase your income. You may decide to start a side hustle, get a new job with higher wages, or ask for a raise. As you increase the denominator in your DTI, your overall percentage will fall. However, there are qualifications for using a second job or part time income for decreasing your DTI.
Often it has to be stable ongoing income received for the past two years.
You may also look for ways to reduce your overall debt, which can have a more immediate effect on your DTI. If you’re grappling with large student loans debt, you could consider consolidating your loans or refinancing with a private lender. If you’re looking to consolidate your federal student loans, you could consider a Direct Consolidation Loan.
This combines all of your federal student loans into one. And your new loan still qualifies for most federal loan benefits. However, the new interest rate on your Direct Consolidation Loan is the weighted interest rate of your bundled loans, rounded up to the nearest eighth of a percent.
If you qualify to refinance your student loans with a private lender, they will pay off your old loans and can provide you with a new loan at a (hopefully) lower interest rate.
A lower interest rate means you’ll pay less in interest over the life of the loan, if you don’t extend your repayment term. Refinancing can also help you shorten your term if you’re looking to get out of debt faster.
While Direct Consolidation Loans are solely reserved for federal loans, you can refinance private and federal loans (or even refinance both into one, new loan). Refinancing federal loans with a private lender means you’ll lose access to federal loan benefits like income-driven repayment plans, deferment, and forbearance.
You may also want to take a look at the other debts you have and find ways to reduce them. If you carry a lot of high-interest credit card debt, for example, you could consider making extra payments to pay it off faster.
Also, while you’re paying off your current debts, it’s not a bad idea to avoid taking on new debt if you can. This may mean making fewer purchases with your credit card or putting off big purchases such as a new car for a few years while you lower your DTI and pursue other goals.
Patience Can Pay Off
Lending rules, such as the maximum DTI a lender will accept, can feel like a real drag sometimes, especially if you’re itching to get a new mortgage. But keep in mind that these rules are there for a reason, and part of that reason is to protect you from taking on new debt that you can’t afford.
What’s more, taking the time to make student loans debt more manageable or pay it off entirely can be worth the effort since it can lower your DTI, which may help you qualify for more favorable terms on future loans.
Making sure your debt is manageable has the added benefit of potentially improving your credit score. Making full, on-time debt payments shows that you are responsible with your finances and can give your score a boost. This too might help you qualify for more favorable loans in the future.
Visit SoFi to find out more about how refinancing your student loans can help to make your student loan debt more manageable and potentially decrease your debt-to-income ratio.
External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
SoFi Student Loan Refinance
If you are looking to refinance federal student loans, please be aware that the White House has announced up to $20,000 of student loan forgiveness for Pell Grant recipients and $10,000 for qualifying borrowers whose student loans are federally held. Additionally, the federal student loan payment pause and interest holiday has been extended beyond December 31, 2022. Please carefully consider these changes before refinancing federally held loans with SoFi, since the amount or portion of your federal student debt that you refinance will no longer qualify for the federal loan payment suspension, interest waiver, or any other current or future benefits applicable to federal loans. If you qualify for federal student loan forgiveness and still wish to refinance, leave unrefinanced the amount you expect to be forgiven to receive your federal benefit.
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Notice: SoFi refinance loans are private loans and do not have the same repayment options that the federal loan program offers such as Income-Driven Repayment plans, including Income-Contingent Repayment or PAYE. SoFi always recommends that you consult a qualified financial advisor to discuss what is best for your unique situation.
Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website .