If you have good credit and a stable income, you could help a close friend or family member get approved for a mortgage by co-signing the loan. But whether you should co-sign a mortgage depends on whether you can afford the risk to your credit, finances and personal relationship with the borrower.
What Does It Mean to Be a Co-Signer on a Mortgage?
A co-signer shares responsibility for the payment of a loan. If the borrower stops making payments, the co-signer is required to pay back the loan.
“When you co-sign a mortgage, you are signing up to be responsible for repaying that mortgage,” says Dawn-Marie Joseph, founder of Estate Planning & Preservation in Williamston, Michigan. “If the mortgage payments don’t get made, it will impact your credit score and future borrowing power.”
If a mortgage application is initially turned down because it’s too much of a risk, a co-signer could provide the assurance a lender needs to approve the loan. For example, an applicant who has a checkered credit history or a salary that’s too low to handle monthly payments would need a co-signer with strong credit and income in order to assure the lender that the loan will be paid back.
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What’s the Difference Between a Co-Borrower and a Co-Signer?
Co-signing is different from co-borrowing. While you share legal responsibility for the debt in both situations, as a co-borrower, you also typically have a right to the loan proceeds or the asset the loan secures. With a mortgage, both co-borrowers would be on the title for the home.
“After collecting all the data, a lender may sometimes want a co-borrower instead of a co-signer,” Joseph says. For example, a co-signer’s debt-to-income ratio is not always taken into account in the qualification process, Joseph says. Thus, if the primary borrower’s DTI is too high, the lender may require a co-borrower instead of a co-signer to compensate.
Pros and Cons of Co-Signing a Mortgage
When you co-sign a mortgage, you’re taking on a big responsibility, so it’s important to weigh the pros and cons of co-signing beforehand.
Pros of Co-Signing a Mortgage
- You get to help someone. “When you co-sign for someone on their mortgage, you are helping them out to get the mortgage,” Joseph says. “Your credit score may put the other borrower in a position for a better interest rate, too.”
- On-time payments can boost your credit. Since the loan is linked to your credit history, on-time payments can improve your credit score.
- Improve your credit mix. Having a wider variety of loans on your credit report can improve your score.
Cons of Co-Signing a Mortgage
- Late payments can hurt your credit. A late payment could cause your credit score to drop because your payment history makes up 35% of your FICO score. Also, missed payments stay on your credit report for seven years. “You shouldn’t harm your own credit to help (someone) realize their own dreams,” says Michelle T. Chase, a real estate attorney in Naperville, Illinois.
- You may need to make payments yourself. The primary risk of co-signing a mortgage is it becomes your responsibility if the borrower stops making payments. You’re on the hook for the loan, so you could end up making the payments yourself.
- You may need to pay late fees. You might also have to cover late fees or collection costs in addition to the missed payments.
- Can limit your ability to borrow. Even if payments are being made, a co-signed loan could prevent you from getting another loan because of the amount of debt you’re responsible for. For example, Chase says one of her clients could not buy a vacation home because she had co-signed a loan.
- It could hurt your relationship with the primary borrower. Relationships could be compromised, especially if the borrower doesn’t come through with mortgage payments.
If you decide to take the plunge and become a co-signer, be prepared. Make sure you have all the key documents that have your name on them – as well as a plan on how you will communicate and manage the loan with the borrower.
For example, make sure you:
- Set aside enough money to cover mortgage payments in case the borrower misses one or more.
- Arrange for the borrower to let you know if a payment will likely be late. As a backup, ask the lender/loan servicer to advise you if a payment has been missed.
- Find out how to log into the mortgage online account so you can monitor the loan.
When Are Mortgage Co-Signers Allowed?
Not all lenders or types of loans allow co-signers. Here are types of mortgage loans that may allow co-signers:
- Conventional loans. Private lenders set their own guidelines regarding co-signers. When co-signers are allowed, they’re usually a friend or relative, but there are no strict guidelines on who is or is not allowed to co-sign for a conventional mortgage.
- Jumbo loans. Depending on the lender, co-signers may also be used on home loans that exceed conforming loan limits set by the Federal Housing Finance Agency.
- Federal Housing Administration loans. The FHA allows co-signers on home loans it insures. To qualify, the co-signer generally must have a principal residence in the U.S., though there are exceptions. The co-signer also typically cannot have a financial interest in the property, among other eligibility requirements.
- USDA loans. The USDA allows co-signers through its Single Family Housing Direct Home Loan program. Note that co-signers are not allowed in the Single Family Housing Guaranteed Loan program.
What Are Alternatives to Co-Signing?
If you have been asked to be a co-signer, understand the alternatives.
Find help for the applicant. Several programs assist borrowers, including:
- FHA loans. These government-backed loans allow for smaller down payments and more generous credit terms than conventional loans.
- Down payment assistance. National, state and local governments as well as nonprofits offer these options, which include down payment grants, forgivable second mortgage programs and matched savings programs.
- HomeReady Mortgages. Loans from this Fannie Mae program are available with a low down payment, lower income requirements and credit scores of 620 and higher.
Provide a gift. A cash gift could help loan applicants provide a larger down payment, which could decrease their monthly mortgage installment to a low enough level for them to sign the loan themselves. “For the purposes of that mortgage, it’s a gift,” Chase says. “The donor often has to sign a gift letter that they’re not anticipating being reimbursed.”
Buy the home yourself. As the co-signer, you’d need to have enough money to cover the monthly payment anyway, so it might make more sense to purchase it and collect rent. “You don’t have to worry about the mortgage payment being made, because you’re making it,” Chase says.
Encourage a delay. Getting turned down for a mortgage could be a sign that it doesn’t make financial sense for the person or couple to buy a home. “Maybe they should be buying a smaller home, or renting for a while and save more money,” Chase says. “Maybe it’s not the right time to buy that particular home.”
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