Do you have a friend or family member that needs help qualifying for a home loan? Have they asked you to cosign on their mortgage loan? Cosigning on a mortgage loan is a great way to help a friend or family member, but it comes with many risks. Before cosigning on a mortgage loan, you should understand how this could affect you and your credit.
Cosigning on a mortgage loan is different from co-borrowing. A co-borrower is an individual who jointly assumes the mortgage debt and, generally, lives in the home. A cosigner is an individual who assumes the debt of the mortgage loan if the primary borrower defaults on the loan. The cosigner guarantees the debt of the loan but does not live in the home.
According to FTC Facts for Consumers, if a loan defaults, 75% of cosigners will have to pay the loan. Also if the borrower misses a payment, the lender will often go straight to the cosigner for payment. Whether you are thinking about cosigning on a mortgage loan or asking someone to cosign on your mortgage loan, you need to understand all the benefits and risks of cosigning.
What Is a Cosigner?
When someone you know cosigns for your mortgage loan, they are taking on the responsibility of the loan, if you happen to default. You shouldn’t think of a cosigner as a character reference, but it is a legally binding contract that will make that person responsible for your debts.
In some cases, the cosigner is called the “nonoccupant co-client” on the loan. If the primary signer does default on the loan, the lender can legally come after the cosigner for any payments. The lender has the legal authority to hold the cosigner responsible for any missed loan payment, even if they don’t currently reside in the home.
So why would you want to cosign for someone’s loan? Well, in many cases, the cosigner is helping a trusted friend or family member with bad credit to take on the loan. For those applicants with a weak mortgage application, the cosigner can make them a more appealing candidate for approval.
The Difference Between a Cosigner and a Co-Borrower
You might think that a cosigner and co-borrower are the same thing, but there are a few differences. Both of these individuals will take some shared responsibility in helping you take out a loan. However, the difference lies in the benefits of the title. With a cosigner, there are no benefits for signing on the line for another person. They are simply helping out an individual to secure a loan. On the other hand, a co-borrower does have some interest in this investment. They might be in business with the other individual. For example, two people who want to start a restaurant business would take a loan and be known as co-borrowers.
The Cosigning Process
If you want to buy a home, you will probably need a mortgage loan. However, that dream can turn into nighttime without good credit. When you apply for a preapproval, you might not get the best interest rates or could be denied altogether. You can always ask someone to cosign as a nonoccupant co-client on the application. Now, you are a more attractive candidate to lenders.
The lender will consider both incomes and average out the credit score. Your mortgage will function as if you were the only person on the application. You will make the monthly payment every month to cover the interest, principal, taxes, and insurance. Along with that, you can enjoy your status as a homeowner.
However, the lender can hold the nonoccupant co-client financial responsible for any missed payments. In other words, the lender can take your cosigner to court over any missed payments, and that can leave their income and assets subjected to legal action.
Along with mortgages, cosigning can be done for personal, auto, and student loans. There are some loans that will not allow a cosigner on the dotted line. However, the most common nonoccupant co-client mortgages are FHA or conventional loans. Here’s a look at what is required to get a cosigner for these types of loans.
What Kind of Loans are Available
There are two types of loans that borrowers often need or require a cosigner. These types of loans are FHA Loans and Conventional Loans.
An FHA Loan is a mortgage loan insured by the Federal Housing Association (FHA). FHA loans are popular for first-time homebuyers because an FHA loan only requires a down payment of 3.5% for borrowers with a good credit history. But FHA loans often need cosigners because the borrowers do not have enough credit history on their own to qualify, or they are still recovering from bankruptcy or delinquency.
Conventional Loans are mortgage loans that are not insured by a government program. Conventional loans are more challenging to qualify for and have higher interest rates than FHA loans. Borrowers need to have a minimum credit score of 620 to apply for a conventional loan. Because conventional loans have stricter qualifications, a cosigner can help the borrower qualify for the loan.
Mare Mortgages offers the best rates for FHA, Conventional and Jumbo Loans. Find out which loan would work best for you and how much you qualify for?
Related: Benefits of Buying a Home
What Can and Can’t a Cosigner Do for You?
When applying for a mortgage loan, a cosigner can:
- Strengthen your loan application. Cosigners typically have a great credit score and a low Debt-to-Income (DTI) percentage. By adding them, they can reassure the lender.
- Add security for making payments. By cosigning, they are responsible for the payment if you default.
Having a cosigner on your loan can’t:
- Lower your down payment. You will still be responsible for the minimum down payment of the mortgage loan.
- Offset a high Debt-to-Income (DTI). Mortgage lenders will not allow the borrower to have higher than a 43 on their DTI.
- Erase a lousy credit score. Conventional loans require a minimum credit score of 620, and FHA loans require a minimum of 580.
What are the Duties of a Cosigner?
As the cosigner, you will have no right to the property, but you will be responsible for:
- Providing income, assets, liabilities, and credit history during the application process.
- Be listed on the mortgage but not the property title.
- Signing the loan documents.
- Paying for the loan if the borrower cannot.
What are the Risks of Cosigning on a Mortgage Loan?
While cosigning for a friend or family member can help them secure a mortgage loan, it also incurs some significant risks:
- The cosigner is liable for the debt until it is paid in full.
- Increases the cosigner’s DTI.
- May reduce the ability to borrow for new loans.
- Late payments by the borrowers will affect the cosigner’s credit report.
- If payments are missed, the lender can take legal action against the cosigner.
- If the borrower defaults on the loan, the cosigner will have to assume the debt.
If you are in a financially secure situation and can help your friend or family member, remember to communicate with them often and ensure they are making payments.
Are you considering cosigning on a loan for a friend or family member? Talk to one of our team members at Mare’s Mortgage to help you decide if it is the right step for your financial future. Our “open door” customer focus makes us a trusted financial resource in the Orange County area.
Related: How to Get Out of a Mortgage
Are there Alternatives to Cosigning?
While cosigning can be a significant risk, there are alternative ways to help your friend or family member:
- Offer to Help with the Down Payment. This can help the borrowers put more money down on their mortgage, strengthening their loan application.
- Lend the Money to Purchase the Home. In this scenario, you would become the bank for the borrower. They would then make payments to you instead of a bank. Although this method does not help the borrower build their credit.
What Can We Do for You?
Deciding whether you need a cosigner is a big decision. At Mare’s Mortgage, we want to help. Call 949-489-8300 to talk to one of our team members who can help you determine if a cosigner is necessary.
As the #1 trusted mortgage lender in Orange County, California, Mare’s Mortgage offers several tools to assist you in the mortgage application process. Whether you’re a first-time homebuyer or buying your second home, we can help you get a pre-qualification certificate within minutes.
While having a cosigner on a loan can significantly help the loan application, it does come with substantial risk to the cosigner.
If you choose to have a cosigner on your loan, make sure you:
- Protect your cosigner’s credit by paying on time.
- After two years, refinance the loan to remove the cosigner from the loan. Your credit should be sufficient at that point.
Committed to customer satisfaction, Mare’s Mortgage has a solid reputation of honesty, solid financing knowledge, and hands-on customer service. Contact us for a quality home buying experience.
Related: Questions to Ask A Mortgage Lender