Friday, October 31, 2014

20-year student loans and mortgage qualification

20-year student loans and mortgage qualification

Should borrowers convert from a 10-year to a 20-year student loan in order to qualify for a mortgage?

In several previous posts we considered the amount of income a household would need to qualify for a mortgage on a \$300,000 home.   We previously assumed that the term of the student loan was ten years.   Student borrowers have the option of converting a 10-year loan to a 20-year loan.

In this post I consider the impact of the student-loan term decision on the amount a person can borrow and the lifetime financial cost of student loan repayments.

Question:   Consider the person with a \$50,000 student loan at 7%.   The person has a \$120 credit card debt and a \$250 auto loan.   The person wants to buy a \$300,000 home with a 90% LTV loan.

How much income does this person need to qualify for the mortgage if the person keeps the student loan at a 10-year term?

How much income does this person need to qualify for the mortgage if the person converts the student loan to a 20-year term?

What are total interest payments, total student loan payments made and the future value of all student loan payments for the 10-year student loan and the 20-year student loan?

Answer:  The mortgage qualification numbers and the student loan cost numbers for the household under the two student loan arrangements are presented below.

 Student Debt, Consumer Debt and Mortgage Qualification Mortgage Applicant with 10-year Student Loan Mortgage Applicant with 20-year Student Loan Student loan Amount \$50,000 \$50,000 Interest Rate 0.07 0.07 Number of Payments 120 240 Student Loan Payment \$580.54 \$387.65 Car Payment \$250.00 \$250.00 Minimum Credit Card Payment \$120.00 \$120.00 House Amount \$300,000 \$300,000 LTV 0.9 0.9 Loan Amount \$270,000 \$270,000 Interest Rate 0.045 0.045 Number of Payments 360 360 Mortgage Payment \$1,368.05 \$1,368.05 Sum of Mortgage Payment and Non Mortgage Debt Payment \$2,318.59 \$2,125.70 Monthly Income needed to cover mortgage interest \$4,885.89 \$4,885.89 Monthly Income Needed to cover all Debt Payments \$6,101.56 \$5,593.95 Amount of Monthly Income Needed to Qualify for a Mortgage \$6,101.56 \$5,593.95 Annual Salary Needed to Qualify for a Mortgage \$73,218.72 \$67,127.36 Cumulative Interest Paid over life of Student loan (\$19,261.06) (\$42,496.31) Total Loan Payments \$80,894.54 \$119,754.45 Future Value of all payments on the Student loan (\$100,483.07) (\$201,936.94)

Observations:

Converting from a 10-year student loan to a 20-year student loan reduces the income needed to qualify for the mortgage from around \$73,000 to around \$67,000

The student loan conversion increases interest paid over the life of the loan by around \$23,000.

The future value of the loan payments increases from \$100,000 to over \$200,000.

Also:  If you convert a 10-year student debt to a 20-year student debt in order to get the mortgage you will still owe \$33,000 on your student debt after 10 years of payment.

Conclusion:  The increase in the student loan term does improve the ability of the mortgage applicant to qualify for a loan but the cost in terms of additional debt payments seems steep.

This conversion might make more sense for the person with a \$100,000 student loan and no other consumer debt only because without conversion such a household might have to rent for a long time.  Still the cost seems steep.