Let's Deal With It! (Student Loans)

Today in America, there are over 44 million of us with student loans; adding up to a staggering $1.5 trillion of debt. To explain just how massive $1.5 trillion is; you could give every man, woman, and child in this country $1,000, fully fund the $68 billion annual budget of the Department of Education, and don’t forget about the $700 billion annual budget of the Department of Defense and for fun lets give out another $1,000 to every american, cause why not. Oh yea and there still would be billions left over, about $82 billion to be precise. So yea the student loan crisis in america is massive.

Starting our lives by paying $300, $500 or even $1,000 a month in student loans, instead of saving towards a home or your retirement, creates significant financial problems. Specifically for Millennial’s (born from 1980 – 1994) and those in Generation Z (born from 1995 – 2012), who are more likely to have student loans. The student loan crisis not only affects young people. Often our loving parents want to help us, and by doing so, either delays their retirement or drains their savings. The good news is there are several things we can do to tackle this crisis. Thanks to a generally low-interest rate environment that currently exists, we can refinance our loans at a materially lower interest rate. Also, Corporate America has taken notice of this crisis, and have reshaped their benefits to help their employees pay off their loans.

Let’s Talk About Your Credit Score

We can’t talk about student loan refinancing without first discussing your credit score. Your credit score is an indication of your financial responsibility. Napkin Note: Credit Scores range from a minimum of 300, to a maximum of 850. If you want to refinance your student loans, you will need at least a 650 or higher for most lenders. Credit Karma is a great tool you can use to monitor and track your credit. It's a free app, and if you're crazy about checking your credit like I am, you can check it as often as you like without hurting your credit score. If your credit score is below 650, don't worry, you can improve it over time if you follow these simple steps:

·         Pay off your credit cards in full each month.

·         Settle all your late payments.

·         Low Debt-to-Credit Ratio.

·         Do not open accounts that require a credit check.

·         Take a deep breath and relax. Improving your credit takes time, but if you follow these five steps, it will grow.

Your Debt-to-Credit Ratio is simply a ratio expressed as a percentage, where lenders measure how much credit you use against your total credit limit. In other words if you have a credit card limit of $5,000 a month and you spend $2,500 a month, then your Debt-to-Credit ratio is 50%. To improve your credit score, keep this number at or below 30%.

If you apply with a low credit score, you will almost always be denied unless you have a qualified co-signer. A qualified co-signer is someone with a strong credit score (over 680), has a low debt-to-credit ratio, has considerably larger income than you, and less debt. The best co-signers are usually family members, because let's be honest, no one else would do it. This co-signer will be on the hook if you fail to make a payment and will damage their credit if they do not cover your payment. So now you know how to improve your odds of being approved.  Let’s review the steps on how to refinance your student loans.

Step 1: Shop Around. With so many lenders offering different interest rates and repayment terms, it’s important to review several of them to ensure you receive the lowest interest rate. The four lenders I recommend are SoFi, Earnest, Commonbond, and LendKey. These lenders offer competitive rates and have excellent customer service, which makes the process less stressful. These lenders can pre-approve you in seconds by running a soft credit quick, and best of all it won’t impact your credit score. To check if you’re eligible, you will need to provide the lender with the following information:

Name

Address

Education

Income

Social Security Number (Again this will not affect your credit score)

You will find out in seconds if you are pre-approved and be presented with options like, how many years do you want to pay off your loan (repayment terms), and fixed or variable interest rate. If you are unfamiliar with fixed versus variable rate, read my post called Everything Mortgage." While the lender will show your savings from the refinancing, I would recommend using this student loan refinancing calculator to confirm your savings.

Step 2: Fill Out the Application and Apply. At this point, you have chosen a lender, a new interest rate, repayment term and are ready to complete your application. This is where you upload loan documents and have a hard credit check, which does affect your credit score. Below are the item’s most lenders will ask for:

·         Social Security Number

·         Driver’s License or Passport

·         Proof of Income

·         Letter of Employment

·         Federal and Private Loan Documents

In addition to reviewing the above items, the lender will compute your Debt-to-Income Ratio. This ratio is a number comparing your overall debt to income, expressed as a percentage. For example, if you spend $2,500 a month (comprised of credit cards, a car payment, and student loans) and earn $5,000 a month from your job, your Debt-to-Income Ratio will be 50%. Napkin Note: Try and keep this as low as possible to improve your chances of being approved by a lender. 30% should be your goal.

While you are in the process of being approved, keep paying off your original loans until your new lender tells you otherwise. This process can take a few weeks, so please be patient. If you are approved, some lenders will allow you to reduce your interest rate by an additional .25% when you set up auto pay. Please be sure to take advantage of this additional benefit.

Step 3: Pay It Off Faster. If you have some extra money at the end of the month, receive birthday money, a tax refund or get a pay raise at work, make an additional payment. When you make an extra payment make sure you contact your lender and inform them you want the payment to go towards principal only. If you make the payment without telling your lender, they will treat it as an early payment for the following month, which includes interest. Lenders will not charge you a fee for making extra principal payments.

Corporate America has been paying attention to the student debt crisis in America and has begun adapting their compensation packages to help their employees pay down their student loans. The list below is just a few of many companies that will help. 

Comapny Chart Comparing Benefits of Student Loans.PNG

If you are already employed, check with your HR department to see if your company will help you pay off your student loans.

I hope this post helps you save money so you can begin saving for a home and retirement and really anything else besides student loans. I am super excited to hear from you about how much money you have saved by refinancing your loans.

Everything Mortgage

Buying your first home can be a challenge, especially for first-timers. There is so much to learn, and you don't have much time to know everything. So the goal of this post is to simply explain what a mortgage is, and the options you have when it comes to choosing one. In a later post, we will dive much deeper into mortgages and home buying techniques, but for now, let's start with the basics.

What is a Mortgage? A mortgage is a loan from a bank or lender, in which the bank gives you the amount needed to purchase your home, and in exchange, you agree to pay the loan back over a specified amount of time plus an agreed interest rate.

For example, let’s say you have a $500,000 mortgage and you agree to pay the bank back over 30-Years bearing a 5% annual interest rate. Using a mortgage calculator, I found you will pay the bank $32,209 a year or $2,684 a month for 30-Years. The $2,684 payment is broken into principal and interest. As you pay off your mortgage the principal payments will increase, and the interest payments will decrease, but your monthly payment will remain the same $2,684 throughout the 30 years. This is called a 30-Year Fixed-Rate Mortgage and is one of the most common mortgages on the market.  Now that you understand the basics let’s get into the details.

Fixed-Rate Mortgage vs. Adjustable-Rate Mortgage (ARM). A Fixed-Rate Mortgage will have the same interest rate and monthly payment over the life of the mortgage. An Adjustable Rate Mortgage also called an ARM will have a low initial interest rate for a set number of years, usually five but does vary and then after five years, will reset every year (again varies on the ARM), generally to a higher rate. The low initial rate is called a "teaser-rate" since consumers are drawn to the low-interest rate and sometimes do not understand the rate will adjust at a later date. Don't fall victim to "payment shock," which is when you lose track of time, and your mortgage rate adjusts to a much higher rate, and you're literally shocked by the increased payment.

30-Year Fixed Rate. Mentioned earlier, a 30-Year Fixed-Rate Mortgage is one of the most common and is for someone who wants predictable monthly payments. Once the interest rate is set, which is agreed upon beforehand, the rate will never change throughout the life of the loan, unless you refinance your home.

15-Year Fixed Rate. This mortgage will have higher monthly payments than a 30-Year mortgage because you are paying off the loan in half the time. The benefit is you will save a fortune in interest but will have higher monthly payments versus a 30-Year mortgage.

Napkin Note: For example, we will assume two individuals have mortgages of $500,000 bearing a 5% interest rate. Person A chooses a 30-Year mortgage, which results in a monthly payment of $2,684 and a total interest cost of $466,279 over the life of the mortgage. Person B, chooses a 15-Year mortgage, resulting in a monthly payment of $3,954, but the total interest cost is $211,714 over the life of the loan. Person B saves over $250,000 in interest costs.  As you can see, the interest component of your mortgage is more substantial than you may realize even when interest rates are low like they have been over the last several years.

5/1 ARM. Adjustable-Rate Mortgages work like this: The interest rate is fixed for a specified amount of time, and then resets usually annually, usually at a higher rate. Reading an ARM lingo:  The number left of the slash, in this case five, represents the amount of time the interest rate is fixed. The number right of the slash, in this case one, is how often the interest rate will reset.

In the 5/1 ARM example, the interest rate is the same for the first five years and then resets every year starting in year six through 25. Adjustable-Rate Mortgages come in all shapes and sizes, like 10/1, 5/5, and 3/3 to name a few and follow the same logic described above. Since it is challenging and complicated to predict where interest rates will be in the future, you will need to understand once your mortgage rate begins to reset, your monthly payments will likely increase. A 5/1 ARM and most ARM’s are best suited for buyers who plan to sell or refinance their home before the interest rate adjusts.

Interest-Only Mortgage. A Fixed-Rate Mortgage is a conservative mortgage due to the stability it brings to consumers. Adjustable-Rate Mortgages while riskier can be an excellent option for first time home buyers, who do not plan on being in their home for more than five or ten years. But what if there was a way to afford a more expensive house and pay significantly less than if you went the fixed or adjustable route. There is a product called an Interest-Only Mortgage.

As you can probably tell by the title, this type of mortgage only pays interest. Here’s the kicker; after a specified number of years, you will have to begin paying principal. For example, let’s assume you have a 30-Year Interest-Only Mortgage for $500,000 bearing a 5% interest rate. This means you will pay no principal for the first ten years and will begin paying principal in years eleven through thirty. Your monthly payments will be $2,083 for the first 10 years, which is comprised of interest only. At the start of year eleven, your monthly payment will increase to $3,299; $1,216 in principal and $2,078 in interest. That is a considerable increase, but there is a way to avoid paying it. The key is to sell your home before the principal portion kicks in. The two immediate pros from this type of mortgage are 1) your payments are approximately $600 lower than a 30-Year Fixed Mortgage assuming both mortgages are for $500,000. And 2) if your home appreciates in value, you will be able to realize that gain once you sell your home.

Some drawbacks of an Interest-Only Mortgage are 1) you are not building equity since you are only paying interest. Should you need a home equity loan, which will be described in detail in a later post, you will be unable to acquire one. And 2) your home may be worth less than what you purchased it for when you have to begin paying off principal, due to a recession or other unpredictable economic event. Many homeowners who used this strategy got burned during the Great Recession of 2008, so please be careful should you wish to use it.

Mortgages can be tricky, but if you understand them, you can learn to use specific strategies to your advantage to save money, which can be applied towards your retirement, student loans, or anything else that isn't a mortgage. Now that you understand the basics, you are ready to move on to the next step which is to speak with an experienced loan officer or mortgage broker who can assist your individual needs.