Income-Based Loan Payment Plans: Counting Couples' Income

When it comes to income-based loan payments, the role of a spouse's income is a crucial consideration. In general, spousal income may be included in the calculation of monthly payments for income-driven repayment plans, but this depends on the specific plan chosen and the tax filing status of the couple. If a married couple files their taxes jointly, their loan payments are typically based on their combined income, whereas separate filings result in payments based on individual income. However, exceptions like the REPAYE plan, which includes spousal income even for separate filers, should be noted. Additionally, the decision to include a spouse's income in loan applications comes with shared responsibility for repayment, impacting both credit scores.

Spousal income and IDR plans

Income-driven repayment (IDR) plans are designed to make payments more affordable for those with federal loans from the Department of Education. IDR plans aim to make managing student loan debt easier by capping monthly payments at a certain percentage of a borrower's discretionary income and loan balance.

Spousal income might be considered when calculating IDR monthly payment amounts. If you file taxes as "Married Filing Jointly", your spouse's income will be included in the calculation. However, if you file as "Married Filing Separately", your spouse's income won't be included.

The Pay As You Earn (PAYE) plan, for example, bases monthly payments on 10% of discretionary income. If you and your spouse both have federal student loans, your monthly payment will be prorated based on the percentage of the combined debt that you owe.

The new SAVE plan, introduced by the Biden administration, replaced the REPAYE plan. SAVE allows spouses who file taxes separately to exclude their partner's income when calculating their individual monthly payments. This is a significant change from the previous REPAYE plan, which based student loan payments on joint income regardless of tax filing status.

It's important to note that filing taxes separately may result in a lower student loan payment, but it could also impact important tax breaks available to joint filers. Therefore, it's recommended to consult a tax or financial advisor before making a decision.

Joint tax returns

When it comes to joint tax returns, there are a few things to keep in mind, especially in the context of income-driven repayment plans for student loans. Firstly, understand that income-driven repayment plans are designed to make payments more affordable for those with federal student loans. These plans typically calculate your student loan payments based on a percentage of your discretionary income, which is your total income minus certain deductions like student loan interest or retirement contributions.

Now, if you and your spouse choose to file your taxes jointly, your student loan payments under an income-driven repayment plan will generally be based on your combined income. This can increase your monthly payments, especially if both you and your spouse have student loans. However, filing jointly also comes with certain tax benefits, such as potentially being in a more advantageous tax bracket, claiming the student loan interest deduction, and receiving credits like the childcare tax credit or the Earned Income Tax Credit.

On the other hand, if you and your spouse decide to file your taxes separately, your student loan payments will typically be based on your individual income. This can result in lower monthly payments, especially if your spouse has a higher income. However, filing separately may cause you to forfeit certain tax benefits that are only available to couples filing jointly. Additionally, it's important to note that the Revised Pay As You Earn (REPAYE) plan is an exception, as it bases monthly payments on combined income, regardless of filing status.

It's worth mentioning that some couples may initially choose to file separately and then later amend their tax returns to a joint filing status. This strategy allows them to benefit from lower IDR plan payments without permanently sacrificing the advantages of joint filing. Ultimately, the impact of spousal income on IDR plans depends on your unique circumstances, so it's recommended to consult a tax or financial advisor for personalized advice.

Separate tax returns

For married couples with student loan debt, one strategy to lower monthly payments and potentially qualify for more loan forgiveness is to file taxes separately. This is because, when filing jointly, the loan servicer uses the household's combined income to calculate the payment.

For income-driven student loan repayment plans like Income-Based Repayment (IBR), Pay As You Earn Repayment (PAYE), and Saving on a Valuable Education (SAVE), monthly payments are calculated based on the borrower's Adjusted Gross Income (AGI). If a couple files a joint tax return, the payment is calculated on their joint AGI. Therefore, a simple way to potentially lower the payment is to lower the AGI, which can be achieved by filing separately.

For example, let's consider a couple where one spouse makes $60,000 per year and has no student loan debt, and the other spouse makes $40,000 per year and has $50,000 in Direct Loans. If this couple files a joint tax return, they will save $1,174 per year in taxes. However, they will not qualify for IBR or PAYE. If they choose the Extended Repayment Plan, their payment will be $347 per month for 300 months. On the other hand, if they file separately, they will pay $1,174 more per year in taxes, but the second spouse will now qualify for IBR, PAYE, and SAVE. Their payment under the Extended Repayment Plan will be the same, but they have more repayment options.

It is important to note that filing taxes separately can also result in paying more tax and losing certain benefits, such as the student loan interest deduction, the childcare tax credit, and the Earned Income Tax Credit. Therefore, it is recommended to consult a tax or financial advisor to determine if the potential savings on student loan payments outweigh the increased taxes and lost benefits.

Co-borrowing

When it comes to taking out a loan, a married couple may choose to include the income of both partners in their application. This can be done by having the spouse act as a co-borrower or co-signer. A co-borrower is an additional borrower whose name appears on the loan documents and who has an obligation to repay the loan. They are different from a co-signer, who is also responsible for the debt but does not have ownership of the property.

The process of applying for a mortgage with a co-borrower is similar to applying alone. Lenders will assess the income, credit scores, and credit history of both borrowers and review any assets they have for a down payment or cash reserves. The main difference is that the lender will use the lowest median credit score of all co-borrowers when evaluating the application. However, some lenders, such as Fannie Mae, use the average of the median credit scores of both borrowers, which can improve the chances of approval.

It is important to note that co-borrowing comes with certain risks and considerations. Both co-borrowers have equal responsibility for repaying the loan, and any late or missed payments can negatively impact both of their credit scores. Additionally, if one spouse has a significantly lower credit score or higher debt-to-income ratio, it may impact the overall eligibility and loan terms. Therefore, it is crucial for spouses to carefully evaluate their financial situation and consider the potential benefits and drawbacks before deciding to co-borrow on a loan.

Debt-to-income ratio

Your debt-to-income ratio (DTI) is an important indicator of your overall financial health. It is the amount of debt you have in relation to your income, expressed as a percentage. Lenders use it to determine how well you manage your monthly obligations and if you can afford to handle additional debt.

The DTI ratio compares how much you owe each month to how much you earn. It includes monthly debt payments such as rent, mortgage, credit cards, car payments, and other debt. It does not include expenses like groceries, utilities, gas, and taxes. The formula for calculating your DTI is to divide your total monthly debt payments by your gross monthly income (income before taxes). The result is your DTI, which will be in the form of a percentage. A lower DTI indicates less risk to lenders.

Lenders typically look at two types of DTI ratios: the front-end ratio and the back-end ratio. The front-end ratio, also called the housing ratio, shows what percentage of your monthly gross income would go toward housing expenses, including your monthly mortgage payment, property taxes, homeowners insurance, etc. The back-end ratio, or total debt ratio, shows what portion of your income is needed to cover all your monthly debt obligations, plus your mortgage payments and housing expenses. This includes credit card bills, car loans, child support, student loans, and any other revolving debt.

A high DTI may limit your borrowing options as it indicates that a large portion of your income is already committed to debt payments, leaving less money for savings or unexpected expenses. If your DTI is too high, you can improve it by paying down your debt or increasing your income.

When it comes to loan applications, your spouse's income can be included if they agree to be a co-borrower, giving them equal ownership of the funds and equal responsibility for repayment. This can increase your chances of approval, qualify you for a larger loan, and/or give you access to better loan rates and terms. However, any late or missed payments will negatively affect both your credit scores.

In the context of student loan debt, marriage can impact your repayment plan. If you are repaying under an income-driven repayment plan, your payment amount may change based on your combined income and family size. You can choose to file separate tax returns to ensure that only your income determines your payment, but it is recommended to consult a tax professional first as this could result in higher taxes and loss of benefits.

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