Sometimes, people need a little financial help purchasing their first home. That’s even more true in today’s housing market, where home prices are skyrocketing. But if you’re thinking about asking your parents or in-laws to be cosigners on your mortgage — an option that is quite common — there are a number of things to consider first.
The housing market remains chaotic. U.S. home prices hit an all-time high in June, according to the National Association of Realtors, The median home sold for $363,300, up from $294,400 a year ago. And, since the pandemic began, many risk-averse banks have tightened their lending standards to avoid a repeat of the 2008-2009 housing crash.
If you’ve lost a job or had your wages cut sometime in the last year and a half, you’re far from alone. “A lot of folks have had a tumultuous year, so if there are things that have hindered your ability to qualify for a mortgage, getting a co-signer can be a good option,” says Elizabeth Root, a licensed loan officer at Better.com.
Even if you haven’t suffered any setbacks, it’s still not unusual to seek a co-signer. “It’s fairly common for a parent to step in and help a child buy their first home,” Root adds. Indeed, about one in six U.S. adults report they’ve co-signed a loan or credit card for someone else, according to a survey by CreditCards.com. About half of those co-signed on behalf of a child or stepchild.
It’s very generous for parents or in-laws to agree to co-sign your mortgage. But it needs to be mulled over. Here’s what to know before you all sign on the dotted lines.
What Is a Co-Signer?
A co-signer is someone who is legally obligated to cover the mortgage payments if the primary borrower — i.e., the person who will occupy the home — defaults.
Because a primary borrower and co-signer apply for a mortgage together, lenders take both parties’ income, credit scores, and assets into account when evaluating the primary borrower’s loan eligibility. As a result, “co-signers can help home buyers who have weaker credit profiles or lower incomes,” says Greg McBride, chief financial analyst at Bankrate.com.
The caveat, though, is that a co-signer assumes the same financial risks as the primary borrower. For example, if you miss several mortgage payments in a row and your dad co-signed your loan, his credit score — as well as yours — could suffer a dent.
When Do I Need a Mortgage Co-Signer?
Put simply, you need a co-signer if you can’t qualify for a mortgage on your own. The most common reasons why people get denied for a mortgage are for having poor credit, no credit history, or insufficient income, according to Experian.
While loan requirements can vary by lender, borrowers typically need a credit score of 620 or higher to qualify for a conventional loan. A conventional loan is a mortgage that meets the underwriting requirements set by Fannie Mae and Freddie Mac, the two government-sponsored enterprises that purchase home loans off the secondary market, package them, and sell them to investors.
In addition, conventional loans usually have a debt-to-income (DTI) requirement of 36%. DTI compares how much money you owe (on student loans, credit cards, auto loans, and — hopefully soon — a mortgage) to your income.
If your credit score is below 620 or your DTI ratio is greater than 43%, enlisting a co-signer who has a higher credit score or income can strengthen your loan application, since their financials are taken into consideration during the underwriting process. (Underwriting is when a financial professional reviews a loan application—including the applicant’s tax returns, pay stubs, and credit report—to make sure it meets the lender’s requirements.)
Should I Have a Parent Co-Sign My Mortgage?
If you’re thinking about asking a parent or in-law to co-sign your home loan, it’s a good idea to ask yourself these questions — and answer honestly.
- Will your parent improve your loan application? If your parent’s credit score or income is lower than yours, having them co-sign won’t make you a more qualified borrower. Also, depending on what your parent’s other debts are, he or she may not even be eligible to be a co-signer. For example, if dad has a lot left on his own mortgage, that negatively affects his debt-to-income ratio, which can make him a poor candidate for becoming a co-signer.
- Do you have the financial means to take on a monthly mortgage payment?“You want to be very intentional and thoughtful about whether you can realistically afford, because your co-signer is going to be on the hook if you fall behind on your loan payments,” says Root, Better.com’s loan expert. Read: co-signing comes with a high level of risk for the co-signer.
Your parent, as a co-signer, will be liable if you fail to make your mortgage payments, meaning they’re putting their credit score on the line. Case in point: the CreditCards.com survey found that 28% of people who co-signed loans said they experienced a drop in their credit score because the person they co-signed for paid late or not at all. Worse yet, if a parent co-signs your loan, they could potentially be sued by your lender if the loan goes unpaid.
There are also practical implications to consider—having a parent co-sign can strain your relationship if things go awry. “Thanksgiving dinner can be a little uncomfortable if you’re behind on your mortgage,” McBride points out.
- Are you in this for the long haul?
Getting a mortgage with a co-signer is a long-term commitment. According to the most recent data, the median duration of homeownership in the U.S. is about 13 years. And the only way to have a co-signer removed is to later on qualify for the loan on your own merit. That’s typically done by refinancing your mortgage, which may or may not make financial sense depending on where mortgage rates go from here. (FYI: mortgage rates are currently near historic lows—the average rate for a 30-year mortgage fell this week to 2.77%, according to Freddie Mac’s weekly Primary Mortgage Survey.)
- Do you truly need a co-signer to qualify for a mortgage?
Before you tap mom or dad’s shoulder, talk to a lender to see if you can get approved for a mortgage on your own. Don’t qualify for a conventional loan? Depending on your financial circumstances and where you’re looking to buy a home, you may qualify for a first-time home buyer’s assistance program (from your state or local government) or for a Fair Housing Administration (FHA) loan, which requires a minimum credit score of only 520 and allows a debt-to-income ratio of up to 43%.
These questions are crucial to think long and hard about. As is the question of: Will this change our relationship? It can be difficult to lend money to family, let alone cosign a major life purchase. Be sure that your relationship won’t be harmed with such a transaction.
Now, despite the risks involved, there are benefits for co-signers. The main advantage is that the account activity will appear on their credit report, which means their credit score can go up if you make your loan payments on time. They also get the gratification of knowing that they played a pivotal role in helping you become a homeowner.
However, co-signing isn’t the only way a parent can help you buy and close on a home. If you’re struggling to piece together a down payment, a parent can gift or lend you cash to help lighten the financial load. In fact, more than half of Americans who purchased their first home in 2020 said family or friends helped them with their down payment, a Realtor.com survey found.
The bottom line? Having a parent co-sign your mortgage is a big decision that has to be weighed carefully by both parties.