According to the Canadian Federation of Students, every spring, Canadian grads hang up their caps and gowns and venture out into the real world with an average debt of $16,727. Based on average entry-level salaries, it’ll take those grads about 14 years to pay off their debt, which leads to putting off milestones, like buying a house. With the average tuition for Canadian students on the rise, the higher you aim in your education, the more money it’ll cost you in the long run. Whether you’re currently seeking post-secondary opportunities, just graduated or have been out in the work force for some time, it’s important to understand how your student debt can affect your ability to secure a mortgage, should you want to pursue homeownership at any point in the future.
How Debt Affects Getting A Mortgage
Despite what you might think, you can carry debt and still apply for a mortgage. Some people are under the impression that having debt will stop you from securing a loan for a mortgage, but many people are able to get the financing they need while carrying debt, especially student loans. When it comes to debt, student loans are one of the “better” debts you can carry because they come with low interest rates, tax breaks and relatively flexible repayment plans.
How Lenders View Student Loans
Lenders will look more favourably at student loan debt than other types like credit card debt or an unsecured line of credit. The lender will look at how much you still have to pay back and how timely you are with payments to determine if lending you money for a mortgage is a wise decision.
They’ll be looking closely at your credit score and your debt-to-income ratio to determine if you’re a good fit. Carrying a lot of debt can hurt your credit score which can affect your ability to secure a new loan. Keep an eye on your score with monthly reports through a free service like BorrowWell and do your best to stay consistent with monthly payments so your credit score reflects your good behaviour. Work toward paying off any credit card debt or lines of credit in advance so the only remaining debt you’re carrying when you apply is student loans.
Debt-To-Income Ratio (DTI)
Your debt-to-income ratio represents the percentage of your debt in relation to your income and will show the lender how much of your money is going toward paying back current debt. The more debt you carry (or the lower your income is) the higher your debt-to-income ratio will be. Lenders will typically be looking for the lowest possible number but generally speaking, 40% is usually the maximum they’ll consider as any higher will put seriously financial strain on you as the borrower. The amount you still owe on your student debt will have a big impact on what score you’ll end up with, and in turn, if you’ll qualify for a mortgage. Work toward paying off as much as you can before you apply to improve your chances of approval.
Top Considerations Before Buying A House
There are a lot of things to consider before you buy a home, especially when you’re carrying student debt. Asking yourself the right questions at the beginning, can help set you up for success as you plan for the future.
Can You Afford To Pay Down Your Debt Alongside Housing Costs?
While you may still qualify for a mortgage with your student debt, it doesn’t necessarily mean you’ll be able to manage the extra costs associated with buying and owning a home. If you’re considering buying a house, start by tracking your current spending to see where your money goes and what you can afford to purchase while maintaining your current lifestyle. You may want to consult with a financial planner to learn more about budgeting, investments and managing your money.
How Much Can You Put Down On A House?
For many first-time home buyers that are carrying debt, saving up 20% for a down payment just isn’t realistic and that’s OK. Just be aware that putting down less than 20% means that you’ll require mortgage insurance and as a result, will incur extra costs. Paying the mortgage insurance fees are likely a much better option than waiting an average of 14 years to pay off your debt and enter the real estate market, especially today as the costs of houses in Canada continue to skyrocket. If you prepare yourself in advance for any extra fees you may incur for putting down less than 20%, there’s no reason why you can’t add a house into your budget.
What Is The Current Interest Rate On Your Debt?
Student debts have lower interest rates than other debt you would incur from credit cards or an unsecured line of credit. Regardless, understanding what your current interest rate is will help you determine how long it’ll take you to pay it off and what kind of interest you’ll incur as you work toward that goal.
How Much Existing Debt Do You Have?
You can still be approved for a mortgage with debt, but not all debts are treated equally. Take a good, hard look at your existing debt across the board. Come up with a debt repayment plan to ensure you’re meeting all your minimum payment requirements and protecting your credit score at the same time. Consider debt stacking or debt consolidation options if you’re concerned about making too many payments to different sources with varying interest rates. Getting your existing debt under control is one of the first positive steps you can take toward pursuing homeownership.
What Does Your Credit Score Look Like?
For most people, learning your credit score and monitoring it regularly is a big deal. Once you’ve made that leap, you can work toward improving it (if necessary). In general, the less debt you have, the better your credit score will be. But that doesn’t mean you can’t carry debt at all if you want to apply for a mortgage. The point of your credit score is to track how you manage your current debt, whether it’s $5,000 or $50,000. Commit to making regular payments toward your debt and you’ll see an improvement in your credit score which will increase your likelihood of being approved for financing.
Should I Pay Down My Student Loans Or Save For A Down Payment?
Making regular payments as promised is critical for maintaining a good credit score so don’t compromise those minimum payments for the sake of saving for a down payment as you’ll risk your chances of approval for a loan in the process. If owning a house is something you’d like to pursue, it would be wise to start tracking your spending and calculating your debt-to-income ratio to make sure you can afford to save for a down payment while making your minimum student debt repayments without going house poor in the process. Do you have a subscription you can live without? Something you overspend on regularly that could be reined in? Taking a long hard look at where your money goes will help you prioritize your spending and saving so you can move toward your new goals instead of wasting money in other areas.
Qualifying For A Mortgage With Student Loan Debt
You can still qualify for a mortgage regardless of your student debt. The key is being on time with your payments and ensuring you have enough income to offset your debt and support your spending in other areas like paying for rent, utilities, groceries etc. Lenders are looking for responsible borrowers. They understand that most people carry debt so as long as it’s being managed responsibly and efficiently, it shouldn’t affect your ability to borrow.
Different Loan Types
When it comes to mortgages there are a few different options you can consider based on your personal situation. Learn more about the types of mortgages and how they can work for you:
Open Mortgages
If you’re looking to make large payments toward your mortgage or pay off the entire thing without penalties, then an open mortgage is the best choice for you because it offers maximum flexibility in exchange for some fluctuation in interest rates. If you’re carrying student debt this is likely not the best option for you.
Closed Mortgages
A closed mortgage means you’re committing to a predetermined interest rate over a specific period of time. With this option you can select a fixed or variable rate depending on your preference or specific needs.
High-Ratio Mortgages
A high-ratio mortgage is the opposite of conventional, where the borrower is contributing less than 20% of the purchase price/value as a down payment. If you’re carrying student debt and aren’t sure you can afford the typical 20% for a down payment, this may be a good option for you. Keep in mind that these types of mortgages require mortgage default insurance through one of Canada’s mortgage insurance companies: Canada Mortgage and Housing Corporation (CMHC), Genworth Financial or Canada Guarantee.
Conventional/Low-Ratio Mortgages
This is a mortgage where the down payment is equal to 20% or more of the property’s purchase price/value. Normally this type of mortgage doesn’t require mortgage protection insurance. If you’re carrying student debt, it’s likely this won’t be an ideal option as it will require too high of a down payment which may not be manageable when a portion of your income is going toward debt repayment.
Fixed-Rate Mortgages
Agreeing to a fixed-rate mortgage means that your interest rate won’t change for the whole duration of your term. This means you won’t have any surprises if rates change because you’ll have the peace of mind that yours remains the same regardless. You’ll also know the exact payment you’ll have to make every month during your term so it’s easier to budget accordingly if you’re also balancing debt. If at the end of the term there’s still a balance and time left on your amortization period, the lender will typically offer you a renewal with the choice of a new term and whichever interest rate is available at that time.
Adjustable-Rate Mortgages
Agreeing to a variable-rate mortgage means that your interest rate will fluctuate based on the bank’s prime lending rate and as a result, could vary from month to month. Your payment amount will remain the same even when interest rates change which means the amount being applied to your principal fluctuates instead. If interest rates drop, more of your mortgage payment is applied to the principal, if they increase, it’s less.
Paying Off Other Existing Debt
If you’re considering applying for a mortgage, make sure to pay off other high-interest debt from credit cards or unsecured lines of credit as these tend to be a cause for concern to lenders. Set yourself up with a savings plan for the short term and use that to determine how long it’ll take you to pay off the other debt you’re carrying so you can then shift those payments into saving for a down payment instead.
Increasing Income To Lower DTI Ratio
Do you have a hobby you could monetize? Are you due for a raise at work? Could you start a side hustle to bring in more cash? Increasing your income is the easiest way to improve your debt-to-income ratio so if you haven’t already, explore your options in this area and see if you can bring in more cash to offset your debts.
Carrying student debt doesn’t have to stop you from buying a home. Focus on making your regular debt payments, start tracking your spending, look for ways to increase your income and learn more about the home buying process so you can prepare yourself for homeownership when the time is right. Reach out to learn more about the cost of buying a home and how you can prepare to enter the market while also managing your student debt.