How to Buy a Home with Defaulted Student Loans
Buying a house is a big moment in one’s life. For many, purchasing a house signifies a new phase of their life. In many cases it is seen as a right of passage. Yet what happens to those seeking to buy a house but who have defaulted student loans? How do you get student loans out of default?
When applying for a loan, applicants are screened through a government database called CAIVRS (Credit Alert Interactive Voice Response System.) If there are any defaults on the applicant’s record, their application is immediately flagged and their application will be denied until the default is removed. Unfortunately for people finding themselves in this situation, per the 2005 Bankruptcy Abuse Prevention and Consumer Protection Act, student loan debt is not dischargeable when filing for personal bankruptcy.
Fortunately, there are options for those who have defaulted on their student loans. The federal student aid office of the Department of Education, offers three different services to help people get their loans out of default; loan rehabilitation, loan consolidation, and repayment in full.
In order to rehabilitate one’s loan, the borrower must make 9 consecutive payments, on time, over the course of 10 months. Once that has been completed, the borrow will once again have access to the benefits of deferment and forbearance. Loan repayment plans that were lost at the time of default will once again be open to the borrower. The default will then promptly be removed from their credit record, although the late payments leading up to the default will remain. This, however, is a one time offer and should the borrower default for a second time, rehabilitation will not be an option.
Consolidation is a slightly different approach for getting out of default. With this option, borrowers take out a new loan to pay off the defaulted student loan. For the consolidation to work the borrower has two options; they can either repay the new loan with an income-driven repayment plan or make three consecutive monthly payments on the defaulted loan. Once that is completed, like with rehabilitation, the benefits of deferment and forbearance are reinstated. However, unlike with loan rehabilitation, the default does not get removed from the borrower’s credit record.
Repayment in full
The third and final option for removing a default is repayment in full. The most efficient way to get student loans out of default, is simply paying them in full. If the borrower pays off the loan in full, they will be able to remove the default on their record. The late payments however, will still remain. It’s a tall order, but it sometimes can be the cleanest way.
Once a loan has been taken out of default, borrowers will have to begin building up their credit in order to qualify for home loan. This can even begin during the process of getting the default removed. One way to improve one’s credit score is to become an authorized user of on a credit card of someone with a good credit score (620 or higher).
For those with lower credit scores, FHA loans are another option. FHA loans only require 3.5% down payments. Some conventional loans will allow for a down payment as low as 5%. In each scenario however, the borrow will have to purchase private mortgage insurance. For those coming out of defaulted student loans, saving up for a down payment is key. The larger your down payment is, the more it will help with your credit score.