You’re out of college, working, and thinking about the future. It’s only natural that saving up money and buying a house is the next step. But, buying a house with student loans can get a little tricky. You must decide, is it best to use your savings to pay off student loans or buy a house first?
As with most financial-related questions, the answer depends on your specific situation. You need to crunch some numbers and think about what’s right for you. Below, we’ll break down some scenarios where it may make sense to do one over the other.
Scenarios Where It Makes Sense to Buy A Home First
You Don’t Need to Make a Down Payment (or a Big One)
Putting 20% down on your new home makes sense on paper. You have equity in the house and will have a more manageable monthly payment. But, it’s not necessarily the right move if you have student debt. If you have a private or government lender that will let you finance your home with a lower down payment, put down less on your home and more on your debt. This makes the most sense if your student loans have a higher interest rate.
For example, say you have $50,000 in student debt at a 5.8% interest rate. You’re looking to buy a $130,000 home. You qualify for a mortgage with a 4% interest rate that only requires you to pay 5% down. In this scenario, you shouldn’t put down any more than the 5%. Your student loan debt has a much higher interest rate, so you need to pay it off first. Put down the $6,500 and put any extra money toward your student debt.
Make note that if you do put less than 20% down on your home, you will likely have to pay for private mortgage insurance (PMI). It’s an added cost of 0.5 to 1 percent of your monthly mortgage payment. Given the example above, a PMI of 1 percent will cost you around $68 more per month or $816 per year. That might seem like a lot, but the money you will save by paying off your student loans early more than makes up for it.
You Have a Stable Job
How’s work going? You need a steady income if you’re going to juggle mortgage, home insurance, and student loan payments each month. If you have a stable job, managing all these payments will be a little easier. You know how much money comes in each month and can create a reliable budget. Plus, if you’re happy with your job, it’s likely that you’ll be staying in the area for years to come. That means your investment in a home will certainly pay off.
Rent is High Where You Live
In some areas, renting costs a whole lot more than owning a home—at least when you consider monthly rental vs. monthly mortgage payments. If you live in a high rent area, you may have better luck trying to pay down your student debt while buying a home instead of renting. Of course, you need to account for all costs associated with homeownership.
Here are just a few additional expenses that you will have to pay once you become a homeowner:
– Home insurance
– Property taxes
The New York Times offers some interactive graphs that you can use to determine whether renting or buying a home makes sense for you. You’ll need specific details on hand like a mortgage interest rate, home cost, tax rates, rental property cost, etc. Depending on where you live, purchasing a home can save you a lot of money each month.
Scenarios Where It Makes Sense to Pay Off Your Student Loans First
You’re Not Ready to Lay Down Roots
Buying a home is a lot different than renting. You aren’t signing a month-to-month agreement or year-long contract. You’re financially committing to living in the same place for a while. At least, it should be for a while. The longer you stay in the home you buy, the more worthwhile a lot of the upfront costs are like closing costs and move in costs.
If you have doubts about your job or the area you live in, you might not want to commit to becoming a homeowner just yet. Renting makes more sense for you as you figure out what you want in life. Just keep paying your monthly rent and put your savings toward your student loans.
You Have a High Debt-to-Income Ratio
Your debt-to-income (DTI) ratio compares how much debt you owe to your income. It’s a ratio used by lenders to determine whether they think you can handle taking on additional debt. If you have a high DTI, you’re not in a great spot to take on a mortgage. It indicates that a lot of the money you make each month is tied down to debt.
Here’s what gets factored into the DTI calculations:
Monthly Debt Obligations
- Monthly mortgage payment
- Home equity loan payment
- Child support and alimony
- Student loan payment
- Car loan payment
- Minimum monthly payment on credit card debt
- Other monthly debt obligations that will not be paid off within 6-10 months
Pre-Tax Monthly Income
- Tips and bonuses
- Child support and alimony
- Social Security
- Other additional income
Lenders use a 28/36 rule when determining if you can afford to take on more debt. No more than 28% of your grossly monthly income should go toward housing expenses and no more than 36% should go to total debt (including housing). If your DTI ratio is high, you should wait to buy a home. You’re carrying too much debt relative to your income. Plus, your monthly expenses are actually a lot more than what the DTI ratio implies. The number doesn’t factor in monthly bills like food expenses, utilities, internet, phone bills, etc.
If you have a high DTI, work on lowing your student debt (or any other debt) before buying a home. Using your savings to pay down your debt will lower your DTI. Then, when you have money saved up again to buy a home, you will have more flexibility with how much you can spend. Plus, you’ll be better able to manage the monthly costs associated with homeownership.
Your Job Isn’t Stable
If your income varies each month because you’re self-employed or frequently bounce between jobs, owning a home is difficult. You don’t know for sure just how much money you’ll have in the bank each month, so it’s hard to tell if you could cover expenses like mortgage payments, home owner’s insurance, and your student loan payments. If this is you, attacking your student loan debt first makes a lot of sense—but only after you have enough in your emergency fund.
You’re Living at Home (and Everyone is Okay with It)
If you’re living at home with your family—and it’s going well for everyone, you’re better off staying at home and paying off your student loans first. You probably have limited monthly bills, so a lot of your income goes right into savings. Talk to your family and see what they think about you sticking around for a while. You’ll be able to get out of debt faster than you would if you had to live on your own.
So, should you pay off student loans or buy a house first? There truly is no right or wrong answer. You just need to do what’s best for you and your family. Whichever way you think you’re leaning, be sure to run some numbers. You don’t want to end up moving into a house that you can’t afford.
Compare the Best Student Loan Refinance Rates
Here are our top student loan refinance picks for 2019
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Student Debt Relief Loan Refinancing Advertiser Disclosure
College Ave: College Ave Student Loans products are made available through either Firstrust Bank, member FDIC or M.Y. Safra Bank, FSB, member FDIC. All loans are subject to individual approval and adherence to underwriting guidelines. Program restrictions, other terms, and conditions apply.
College Ave Refi Education loans are not currently available to residents of Maine.
1 – The 0.25% auto-pay interest rate reduction applies as long as the borrower or cosigner, if applicable, enrolls in auto-pay and authorizes our loan servicer to automatically deduct your monthly payments from a valid bank account via Automated Clearing House (“ACH”). The rate reduction applies for as long as the monthly payment amount is successfully deducted from the designated bank account and is suspended during periods of forbearance and certain deferments. Variable rates may increase after consummation.
2 – $5,000 is the minimum requirement to refinance. The maximum loan amount is $300,000 for those with medical, dental, pharmacy or veterinary doctorate degrees, and $150,000 for all other undergraduate or graduate degrees. Information advertised valid as of 04/26/2019. Variable interest rates may increase after consummation.
3 – This informational repayment example uses typical loan terms for a refi borrower with a Full Principal & Interest Repayment and a 10-year repayment term, has a $40,000 loan and a 5.5% Annual Percentage Rate (“APR”): 120 monthly payments of $434.11 while in the repayment period, for a total amount of payments of $52,092.61. Loans will never have a full principal and interest monthly payment of less than $50. Your actual rates and repayment terms may vary.
ELFI: Subject to credit approval. Terms and conditions apply. To qualify for refinancing or student loans consolidation through ELFI, you must have at least $15,000 in student loan debt and must have earned a bachelor’s degree or higher from an approved post-secondary institution.
LendKey: Refinancing via LendKey.com is only available for applicants with qualified private education loans from an eligible institution. Loans that were used for exam preparation classes, including, but not limited to, loans for LSAT, MCAT, GMAT, and GRE preparation, are not eligible for refinancing with a lender via LendKey.com. If you currently have any of these exam preparation loans, you should not include them in an application to refinance your student loans on this website. Applicants must be either U.S. citizens or Permanent Residents in an eligible state to qualify for a loan. Certain membership requirements (including the opening of a share account and any applicable association fees in connection with membership) may apply in the event that an applicant wishes to accept a loan offer from a credit union lender. Lenders participating on LendKey.com reserve the right to modify or discontinue the products, terms, and benefits offered on this website at any time without notice. LendKey Technologies, Inc. is not affiliated with, nor does it endorse, any educational institution.
CommonBond: Offered terms are subject to change. Loans are offered by CommonBond Lending, LLC (NMLS # 1175900). If you are approved for a loan, the interest rate offered will depend on your credit profile, your application, the loan term selected and will be within the ranges of rates shown. All Annual Percentage Rates (APRs) displayed assume borrowers enroll in auto pay and account for the 0.25% reduction in interest rate.
Splash Financial: Terms and Conditions apply. Splash reserves the right to modify or discontinue products and benefits at any time without notice. Rates and terms are also subject to change at any time without notice. Offers are subject to credit approval.com
Earnest: To qualify, you must be a U.S. citizen or possess a 10-year (non-conditional) Permanent Resident Card, reside in a state Earnest lends in, and satisfy our minimum eligibility criteria. You may find more information on loan eligibility here: https://www.earnest.com/eligibility. Not all applicants will be approved for a loan, and not all applicants qualify for the lowest rate. Approval and interest rate depend on the review of a complete application.
Earnest’s fixed-rate loan rates range from 3.89% APR (with autopay) to 7.89% APR (with autopay). Variable rate loan rates range from 2.50% APR (with autopay) to 7.27% APR (with autopay). For variable rate loans, although the interest rate will vary after you are approved, the interest rate will never exceed 8.95% for loan terms of 10 years or less. For loan terms of 10 to 15 years, the interest rate will never exceed 9.95%. For loan terms over 15 years, the interest rate will never exceed 11.95% (the maximum rates for these loans). Earnest variable interest rate loans are based on a publicly available index, the one month London Interbank Offered Rate (LIBOR). Your rate will be calculated each month by adding a margin between 0.26% and 5.03% to the one month LIBOR. The rate will not increase more than once per month. Earnest rate ranges are current as of April 23, 2019 and are subject to change based on market conditions and borrower eligibility.
Auto Pay Discount: If you make monthly principal and interest payments by an automatic, monthly deduction from a savings or checking account, your rate will be reduced by one quarter of one percent (0.25%) for so long as you continue to make automatic, electronic monthly payments. This benefit is suspended during periods of deferment and forbearance.
The information provided on this page is updated as of 04/23/19. Earnest reserves the right to change, pause, or terminate product offerings at any time without notice.
Earnest loans are originated by Earnest Operations LLC. California Finance Lender License 6054788. NMLS # 1204917. Earnest Operations LLC is located at 303 2nd Street, Suite 401N, San Francisco, CA 94107. Terms and Conditions apply. Visit https://www.earnest.com/terms-of-service, e-mail us at firstname.lastname@example.org, or call 888-601-2801 for more information on our student loan refinance product.