Refinancing student loan debt is a great way to save in interest costs over the life of the loan and may help reduce your monthly payment. But before you do so, it is important to know how your finances will affect your refinancing. In order to get a low rate to help improve your savings, you need to meet certain criteria for refinancing. For example, your credit score plays a major role when you are applying for loans. Lenders also look at a number of additional factors when determining whether an applicant will be approved for refinancing, and if so, what rate would be appropriate for them. One factor that affects student loan refinancing is a person’s debt-to-income ratio. Read on to find out how this ratio is calculated and how it can affect refinancing.
What is Debt-to-Income Ratio?
Your debt-to-income ratio is a percentage that determines whether your income can pay for all of your debts, including the new student loan you apply for. The lower the ratio the better because it means you have additional income to cover your debts and other expenses. The debts that will be included in the ratio are mortgage or rent payment, credit card debt, auto loans, child support, alimony, personal loans, and any other financial debts. Your monthly gross income is the amount used in the ratio. Here is an example of how to determine your debt-to-income ratio. If you have a $1,300 mortgage payment, a $350 car loan payment, and a $600 student loan debt payment, your total monthly debt payments add up to $2,250. If your monthly income is $4,000 your debt-to-income ratio is found by dividing your total debt payments by monthly gross income, therefore $2,250/$4000 = 56%. This ratio would indicate to lenders that more than half of your gross income pays for outstanding debts and therefore there may not be much income left to pay other expenses.
Debt-to-Income Impact on Refinancing
Although the exact ratio that lenders prefer for debt-to-income ratio is not disclosed, most lenders will look for a ratio of 50% or less to qualify for refinancing. However, to score the lowest interest rates a much lower ratio may be needed. If you find yourself with a ratio of more than 50%, like the example above, don’t panic. There are ways to improve your ratio to help you qualify for refinancing. You can improve your ratio by:
1. Increasing Your Income:
Yes it is easier said than done, but there are various ways you can try to increase your income.
- Overtime – Is overtime an option at your current employer? If so, take advantage of it to earn some extra money. It will not only help you increase your income but you can use the extra money to pay down your debts faster, thereby reducing your ratio.
- Ask for a raise – If it has been a while since you have received a raise and you think you have earned one, prepare a document outlining your accomplishments and request a meeting with your boss.
- Take on a side hustle – If you are able to fit in additional employment, give it a shot to earn more income.
2. Pay Down More Debt Before Refinancing
If your ratio is too high to qualify for refinancing or does not qualify you for a much lower interest rate, try quickly paying off other debts before applying to refinance student loans. Decreasing your monthly debt obligations will help lower your debt-to-income ratio. Try some of these options to quickly pay down debt.
- Start a side hustle – Start working for a grocery shopping service, start an online Etsy shop, walk dogs, babysit, or many other possibilities. Any way you can earn extra money outside of your day job can be put towards your debts.
- Sell unused items around your house – Sell clothing online, clear out old books and movies to sell on eBay or Amazon, or have a garage sale.
- Use any extra money you receive to pay debts – Think stimulus or tax refund checks, rebates and gift money.
- Find money in your budget to pay extra on your lowest debt balance to quickly eliminate that monthly obligation. You may find money in your budget by eliminating restaurant purchases for a couple of months or canceling unused subscription services.
3. Getting a Cosigner
f you are not able to financially qualify on your own, some lenders will allow a cosigner to help with qualifying. A cosigner is a person with a great credit history that will apply for the loan with you to help improve your chances of qualifying for a better rate because of their good finances. Improving your debt-to-income ratio will allow you to qualify for refinancing from more student loan lenders. Some lenders may allow a higher ratio for debt-to-income, for example, 65%, however, their interest rates may be much higher (which may not save you any money) and they may be the only lender you qualify with. This is a drawback since qualifying with more lenders will allow you to have more rates to compare. In addition to qualifying for more potential lenders, improving your ratio will also allow you to qualify for the lower interest rates that lenders offer. If a lender requires a 50% debt-to-income ratio but your ratio is 20%, you could qualify for the lower rates that the lender has than a person with a higher ratio. If you are ready to refinance your student loan debt and want to see how much you may be able to save, check out our Student Loan Refinance Calculator.* Now that you know what your debt-to-income ratio is and how it affects student loan refinancing, you can work to improve your ratio if needed. When you are paying off student loan debt it may seem overwhelming, but taking charge of your finances by paying down debt and refinancing to save in interest costs can help improve your financial future and make it quicker to pay off your debts. Good luck!
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