Buying a home with student loan debt can be a challenge. According to the Federal Reserve, each additional $1,000 in student loan debt decreases a borrower’s homeownership rate by 1% to 2%.
In other words, if you have $30,000 in student loan debt, you may be up to 60% less likely to be able to buy a home than someone with no student loan debt at all.
Fortunately, you don’t necessarily have to choose between paying off student loans or saving for a house. There are ways to work toward both financial goals at the same time. Here’s what you need to know.
How student loan refinancing can help you save for a home
Student loan refinancing involves using a new loan from a private lender to pay off one or more existing student loans. You can refinance both federal and private student loans, and it could help you avoid the dilemma of whether you should pay off student loans or save for a mortgage.
Here are some of the key benefits of student loan refinancing for aspiring homeowners:
- It can reduce your interest rate: If you qualify for refinancing, you may be able to get an interest rate that’s lower than what you’re currently paying. This will save you money on interest charges and give you a little more cash flow every month to put toward a down payment.
- It can lower your monthly payment: Scoring a lower interest rate with the same repayment term can reduce your monthly payment. But you can also choose a longer repayment term, which will lower your payment whether or not you also get a reduced rate. Not only does this give you more cash to put toward a down payment but it also reduces your debt-to-income ratio, which can help improve your chances of qualifying for a mortgage.
- It can help you pay off student loan debt faster: If you’re not sure whether to pay off student loans or save for a house, but you’re leaning toward tackling student debt, refinancing can allow you to get a shorter repayment period than what you have now. If you can afford the new, higher monthly payment, you could become debt free years sooner, making it easier to focus on your next goal to buy a house. Plus, you’ll pay much less in total interest costs.
Read More: How to Monitor Current Refinance Rates
Of course, refinancing isn’t for everyone. Lenders typically require you to have a strong credit history and relatively high income to qualify — though you can choose to apply with a creditworthy cosigner which can improve your odds of getting approved at a favorable rate.
Also, if you have federal student loans, refinancing them with a private lender will cause you to lose your federal benefits. For example, you’ll no longer be eligible for student loan forgiveness programs, you can’t get on an income-driven repayment plan, and forbearance options may not be as generous if you experience financial hardship in the future.
Why your debt-to-income ratio is so important
One of the primary benefits of refinancing to get a lower payment is that it lowers your debt-to-income ratio — your total monthly debt payments divided by your monthly gross income.
While most lenders consider your debt-to-income ratio for all types of loans, it’s especially important to mortgage lenders because of the size and length of a typical mortgage loan. It’s a long commitment and the more debt payments you have, the more you’re at risk of falling behind on your mortgage.
So as you consider refinancing your student debt, getting a lower monthly payment may be a top priority. That said, run the numbers on your other debts to make sure you fall within standard debt-to-income requirements. In general, mortgage lenders prefer you to have a debt-to-income ratio of under 36%.
Should I refinance student loans?
If you’re wondering if you should pay off student loans or save for a mortgage, student loan refinancing can help you achieve both goals. But it’s not the only way and it’s not always the right option.
For instance, if you don’t qualify for refinancing or want to retain the benefits of federal student loans, you may be better off switching to an income-driven repayment plan instead. This approach will also reduce your monthly payment and, therefore, your debt-to-income ratio.
Also, if you consolidate your federal loans with another federal servicer, your repayment term may be extended for up to 30 years, which will also accomplish your goal.
That said, consolidating federal loans with the U.S. Department of Education won’t lower your interest rate — in fact, it may increase it slightly. So if you do qualify for refinancing and your credit and income situation is strong enough to score a lower interest rate, that may be your best option to save the most money.
If you’re considering refinancing your student loans, Purefy’s Compare Rates tool can help you shop around and compare rates and other terms from multiple lenders in one place. The platform can help you save time with your research and ensure you get the best deal based on your credit.
The bottom line
Saving for a home can take years, so you may be feeling discouraged knowing you still have several years left worth of payments on your student loans. The good news is that you don’t have to ignore saving for a down payment while you focus on your student loan debt.
Whether you choose to refinance your student loans, get on an income-driven repayment plan, or consolidate your debt with the federal government, a lower monthly payment can help you make more room in your budget to save and also reduce your debt-to-income ratio.
Read More: 8 Great Reasons to Refinance Student Loans
Of course, every path toward balancing student loans and saving for a house has both benefits and drawbacks. So it’s important to carefully consider all of your options before making a decision. But the more time you spend researching and evaluating your situation and goals, the easier it will be to make the correct decision for you.