Below is a reprint of Josh Mettle’s most recent article in Utah Physician magazine. Josh was excited to be asked to contribute to the February / March 2016 issue.
By Josh Mettle, Author of Why Physician Home Loans Fail – How To Avoid The Landmines For A Flawless Home Purchase
Is a physician home loan right for you? This common question can easily be answered by reviewing some of the pros and cons associated with a physician home loan. There are some cases where a physician home loan might save you money and actually be the only option, and other cases where you would save money by going with a conventional loan. In this article, we will explore both.
First, let’s define what a physician loan (or doctor loan or doctor mortgage) is. In the simplest terms, a physician loan is a specialized loan made to physicians, whether in training or attending, with more liberal underwriting guidelines than conventional loans. They typically are not sold to Fannie Mae or Freddie Mac; typically they are retained by the bank making the loan.
All Physician Loans Are Not Created Equal
The underwriting guidelines are proprietary to the specific institution you are dealing with and the guidelines can vary widely. If for some reason you don’t qualify at one lending institution, do not let that discourage you from trying again. The bank making the loan sets these guidelines and any possible exceptions to the guidelines. Typically this is based on the institution’s experience and their comfort level with physician loans, which can vary widely.
Physician Loan Benefits
There are a few common sticking points that physicians commonly find themselves struggling with. Physician loans are designed to help overcome these potential qualification issues.
Student Loans – The Consumer Financial Protection Bureau (CFPB) was created in the wake of the mortgage-meltdown to protect consumers from unfair lending practices. The CFPB is charged with administering the Dodd Frank Act and the Ability-to-Repay (ATR) rule. Under ATR, every mortgage lender must be able to document a borrower’s reasonable ability to repay the mortgage loan. The intent of this was good; they don’t want lenders making loans to people they know cannot pay and will likely end up in foreclosure. Unfortunately, there have been some unintended consequences for borrowers who have student loans in deferral and forbearance.
Previously if your student loan payments were deferred for at least 12 months, or if we could document that you had applied for Income Based Repayment (IBR), we could exclude or qualify based on a future IBR payment. Today most (if not all) physician home loan programs are requiring borrowers to have actually entered into repayment (IBR, Pay As You Earn or Income-Contingent Repayment Plans are ok) or they calculate what the fully amortizing payment will be in the future and use that amount to qualify. This has caused grief for physicians in training trying to qualify with deferred student loans and limited income.
Self-Employed & 1099 Independent Contractors – The Ability-to-Repay rule has also impacted underwriting decisions on non-W-2 employees and their ability to qualify for financing. Most conventional underwriting guidelines require a full two year history for self-employment and independent contractor income. Unfortunately, many clients start their employment mid-year, which results in a partial years income on their first return. Many self-employed borrowers find themselves not being able to qualify for conventional financing until they are in their third year of practice and have two full years tax returns to document income. This is the most conservative approach to documenting a borrower’s income and ability-to-repay.
Physician loan guidelines vary widely in this area. There are programs on the market that will allow you to qualify with an employment contract as an independent contractor and with as little as six month history as self-employed. If you don’t get the answer you want from the first institution, Google search “physician home loans” plus the state you are financing in. Contact the lenders that are listed and continue contacting them until you find a physician home loan product with guidelines that will work for you.
Limited Down Payment – A significant benefit with a physician loan is the ability to retain your savings to use towards paying down student loans or debt you might have accumulated throughout training. Most physician programs will allow you zero to 5% down with loan amounts up to $1.5M.
Closing With An Employment Contract – Closing between 60 and 90 days before you start your new position is possible, this enables you to avoid having to move twice if you are relocating for a new position. Keep in mind, there are some liquidity reserve requirements if you want to close on an employment contract. Make sure to check with your loan officer to find out how much savings is going to be needed to close with an employment contract alone.
Physician Loan Drawbacks
The downside to doctor mortgages is that they tend to carry slightly higher interest rates than do conventional loans. Conventional loans, loans sold to Fannie Mae and Freddie Mac, represent the largest market for mortgages in the world, and as such, they have the lowest margin and rates.
Typically physician mortgage interest rates will be .25% to .50% higher than conventional rates. If you are putting less than 20% down, you can make up some, if not all, of that higher rate up by avoiding monthly mortgage insurance, which is typically .50% to 1.00% per year.
When considering a 20% down payment, I recommend clients consider the loan’s total cost, adjusted for tax-deductibility. Many physicians pay 30 to 40 percent of their gross income to state and federal income taxes. The extra .25% to .50% in interest you pay is typically tax-deductible. Mortgage insurance is not typically tax-deductible.
Here’s an example of how tax-deductibility potentially effects the total cost you pay on a physician loan without mortgage insurance.
The point is, paying slightly more interest with a physician home loan could behoove you if it allows you to purchase with less money down and less headache during the mortgage process due to more liberal guidelines. It may also serve you to put as little down as possible, if you have other outstanding non-tax-deductible debt with a higher interest rate than your effective after tax-deduction rate on your mortgage.
Josh Mettle would be happy to hear from you at (855) 260-9932 or Contact Us here. We are happy to go over your particular situation and help you evaluate what is the best doctor loan option for you and your family. We’ll always give you honest advice.