Spring and summer are traditionally hot months for homebuying, but some would-be buyers with student loan debt could encounter unexpected trouble.
Nearly 10 million federal student loan borrowers may be facing delinquency, potentially dropping their credit scores by 150 points or more, according to a report released by the Federal Reserve Bank of New York on Mar. 26. That kind of damage could torpedo homebuying plans. Here’s why this is happening, and what borrowers can do.
Why delinquencies are rising
From March 2020 through September 2023, federal student loan payments were suspended as an emergency pandemic measure. To transition borrowers back to repayment, the Biden administration created the student loan on-ramp, a 12-month period when late or missed payments weren’t penalized.
The on-ramp ended on Sept. 30, 2024, but the New York Fed’s data analysis found that many borrowers never resumed making payments. A substantial number may not have to: Borrowers on the Saving on a Valuable Education (SAVE) repayment plan have had their payments paused since last summer due to ongoing litigation. Others, however, are now subject to penalties.
Delinquencies started hitting in January and are still rolling out even now. Though a federal student loan is delinquent as soon as the due date has passed, loan servicers — the companies that handle student loan payments — don’t report delinquencies to credit bureaus until the loan is 90 days past due.
Guidance from the Department of Education during the on-ramp period helps explain the ongoing impacts on individual credit reports. “Servicers were instructed to apply forbearance to retroactively bring that account current,” on a rolling basis, explains Scott Buchanan, executive director of the Student Loan Servicing Alliance, a trade association for student loan servicers. Each borrower’s timeline depends on the end date of their most recent forbearance.
Consequences of nonpayment
The lengthy break from repayment coupled with confusion around when and for whom payments resumed has led to situations where borrowers are surprised to find they have missed payments.
“People change email addresses, move, or just don’t check the portal,” says Steven Kibbel, a certified financial planner based in Franklin, TN. “I had one client who thought her loans were still deferred from graduate school. They weren’t. She was five months behind.”
“It’s people with higher scores who might feel the most pain,” says Martin Lynch, president of the Financial Counseling Association of America. “Their scores may see a 150-point loss if they fall into delinquency.”
The authors of the New York Fed report estimate that a student loan delinquency could damage a credit score of 760 or higher by more than 170 points. To put that in perspective, a home buyer with a credit score of 760 can reasonably expect to qualify for a conventional home loan, the most common type of mortgage. But with a credit score of 590, an FHA loan — which comes with additional costs and requires a higher minimum down payment — could be their only option.
Credit scores are key to how lenders calculate the interest rates they offer borrowers, and lower credit scores will mean higher mortgage rates. That kind of sudden drop could potentially shift homebuying from being a stretch to being unaffordable.
Allowing loans to fall into default, which happens after 270 days of nonpayment, could lead a mortgage lender to reject an application.
“Back in September, I worked with this couple who’d saved $40,000 for a down payment. But their student loan default from two years ago killed their mortgage application,” recalls Andrew Lokenauth, a Tampa-based credit counselor who writes the Fluent In Finance newsletter. “Even after they got back on track with payments, most lenders wouldn’t touch them.”
Steps borrowers can take now
If you’re not sure about your federal student loans’ status, go to studentaid.gov to view your payment history and find information on your student loan servicer.
“A lot changed during the pandemic. I’ve had clients discover their servicer changed without them knowing,” says Lokenauth. Once you’ve got your student servicer information, log in to your account on your servicer’s website, too. Make sure all of your contact information is up-to-date.
Regular payments are due from all federal student loan borrowers except those on the SAVE plan. If you’ve missed one or more payments, take action immediately. Contact your servicer and ask what options are available to get your account current. Preventing additional damage should be a priority.
“The only thing worse than a 90-day delinquency on your credit file is a 120-day delinquency,” Buchanan says.
And the repercussions only keep growing. While a delinquency harms your credit, defaulting on federal student loans can trigger wage garnishment, having tax refunds and federal benefits withheld, and losing access to relief options.
If you need time to get back on track with payments, your servicer may offer you a couple of ways to put your loan on hold. A forbearance will temporarily pause your payments, though interest will accrue. Deferment is another option; interest doesn’t accrue, but you’ll have to meet eligibility qualifications.
Additional student loan help is available if you need it.
If you’re struggling with unpaid student loans, seeking help from a nonprofit credit counselor or a Certified Student Loan Professional financial advisor can assist you in devising a plan to get back on track with your payments. Additionally, your college’s financial aid office may offer guidance on various options available to you, even if you have been out of school for some time.
Exploring different repayment plans to find one that is more affordable for you is a good idea. However, keep in mind that changing plans may take time as applications for income-driven repayment plans are currently not being processed.
When it comes to homebuying, a delinquency resulting from unpaid student loans can delay your plans, but it doesn’t have to derail them entirely. While negative marks can stay on your credit report for up to seven years, bringing your account current and demonstrating a commitment to making payments can show lenders that your past mistake is not indicative of your financial habits.
According to Kibbel, mortgage lenders can be understanding, especially if your loan is current despite a large balance. He recommends working with a mortgage broker who has experience working with borrowers with student debt to assist in finding a lender. Additionally, seeking out a mortgage lender that offers manual underwriting, where your application is personally evaluated, can be beneficial if you have faced credit challenges.
Although dealing with student loan delinquency can be a setback, it should not deter you from pursuing homeownership. With the right support and approach, you can work towards resolving your student loan issues and achieving your goal of owning a home.