Loan Cosigners in Real Estate - A Lot of Risk For Not Much Gain

| | Comments (0)

Every so often I get questions about loan cosigners. The main borrowers do not qualify on their own, so they get someone - most often mom and dad - to cosign. Now this is a different thing, or so I understand, in the other major credit areas - automobiles, rent, etcetera. But this is about Real Estate.

The only time this usually makes a difference is in credit history. The main borrowers qualify on the basis of income, but don't have enough of a credit history to qualify. Sometimes they just don't have enough open credit to have a credit score. This is rare, but I did have one executive couple who made a habit of paying cash for everything (a good habit, I might add). They had precisely one open line of credit, a credit card they paid off every month, and the major bureaus require two lines in order to report a credit score. No credit score, no loan. It's that simple. Even there, the solution was to walk in to their credit union and apply for another, not to get a cosigner.

When you bring other folks into the loan, you're bringing their credit history, their potentially high payments, and every other negative they have into the loan. Most of the time, the folks who are willing to cosign do not materially aid the qualification process.

Pitfall number one: Lenders designate primary borrower by who makes the most money. If the cosigners make more money than the "real" borrowers, they now become the primary borrower, and it becomes a loan on investment property as far as the lenders are concerned, adding restrictions, raising the trade-off between rate and costs of the loan, and perhaps making the loan require a larger down payment. This does assume they won't live there, but usually if they were going to live there, they would have been on the loan in the first place.

Pitfall number two: The cosigners are overextended also. Sure, they make $10,000 per month, but they have payments of $5000 per month already. There's nothing left over where the bank sees them as having enough money left over to help you out. They may, in fact, have money to spare, particularly if they make a lot of money, but according to the standard ratios, they do not. You can't have the cosigners be stated income or NINA if the main borrowers are full documentation. If you have to downgrade to stated income in order to qualify, that is going to cost a lot of money through higher rate/cost trade-off. Obviously, better that you qualify for a lesser loan than that you don't qualify at all, but you don't want to downgrade if you don't have to.

Pitfall number three: This one hits the cosigners. They are agreeing to be responsible for your payments in the event you don't make them. Suppose they want to borrow money for something else. Especially if it's a large amount of money, as real estate payments tend to be. It really cramps their ability to qualify for other things. This works the other way, also. People come to me for real estate loans who have agreed to be cosigners for a car loan are responsible for the $400 per month for that loan. Many times, this means they don't qualify for the real estate loan. So we have to prove to their prospective lenders that the "true" borrowers are making the payments. This is usually not difficult, but if the cosigners wrote the check for the payment anytime in the last six months to a year, it can be problematic.

Pitfall number four: This also hits the cosigners rather than the main borrowers. Suppose a payment gets made late. It impacts the credit of the cosigners as well as the "real" borrowers. It doesn't matter if you're the "real" borrower or the cosigner, it hurts your credit just as much and for just as long. If you cosign, you want some kind of proof that payment is being made on time, every month. You shouldn't cosign if you don't have the resources to make that payment pretty much indefinitely. Furthermore, should the cosigners decide to cut their losses, it can take months before the monthly hits to the credit stop. If the "real" borrowers don't want to liquidate, the cosigners may have to go to court to get out of it, and the only people who are happy there are the lawyers.

Now suppose the loan being applied for has a Debt to Income Ratio maximum of forty five percent, and the cosigners make $10,000 per month, but they have expenses of $4300. This will mean that they only have $200 per month to contribute towards qualifying for the new loan. If the "real" borrowers weren't fairly close to qualifying without them, they aren't going to qualify with them. If they have expenses of $4600 per month, they have nothing to contribute to the loan qualification. In such cases, the work of asking them to apply is wasted.

Caveat Emptor

Categories

Delicious Bookmark this on Delicious StumbleUpon Toolbar Stumble It!
Please be civil. Avoid profanity - I will delete the vast majority of it, usually by deleting the entire comment. To avoid comment spam, a comments account is required. They are freely available, and you can post comments immediately. Alternatively, you may use your Type Key registration, or sign up for one (They work at most Movable Type sites). All comments made are licensed to the site, but the fact that a comment has been allowed to remain should not be taken as an endorsement from me or the site. There is no point in attempting to foster discussion if only my own viewpoint is to be permitted. If you believe you see something damaging to you or some third party, I will most likely delete it upon request.
Logical failures (straw man, ad hominem, red herring, etcetera) will be pointed out - and I hope you'll point out any such errors I make as well. If there's something you don't understand, ask.
Nonetheless, the idea of comments should be constructive. Aim them at the issue, not the individual. Consider it a challenge to make your criticism constructive. Try to be respectful. Those who make a habit of trollish behavior will be banned.

Leave a comment

 



Buy My Science Fiction Novels!
Dan Melson Author Page

The Man From Empire
Man From Empire Cover
Man From Empire Books2Read link

A Guardian From Earth
Guardian From Earth Cover
Guardian From Earth Books2Read link

Empire and Earth
Empire and Earth Cover
Empire and Earth Books2Read link

Working The Trenches
Working The Trenches Cover
Working the Trenches Books2Read link

Preparing The Ground
Preparing The Ground Cover
Preparing the Ground Books2Read link

Building the People
Building the People Cover
Building the People Books2Read link


The Invention of Motherhood
Invention of Motherhood Cover
Invention of Motherhood Books2Read link

The Book on Mortgages Everyone Should Have!
What Consumers Need To Know About Mortgages
What Consumers Need To Know About Mortgages Cover
What Consumers Need to Know About Mortgages Books2Read

The Book on Buying Real Estate Everyone Should Have
What Consumers Need To Know About Buying Real Estate
What Consumers Need To Know About Buying Real Estate Cover
What Consumers Need to Know About Buying Real Estate Books2Read

Dan Melson's San Diego Real Estate and Mortgage Website

↑ Grab this Headline Animator

About this Entry

This page contains a single entry by Dan Melson published on January 26, 2008 7:00 AM.

Loan Documents - Contracts of Adhesion was the previous entry in this blog.

Zero Cost Refinances is the next entry in this blog.

Find recent content on the main index or look in the archives to find all content.

Powered by Movable Type 4.21-en
******

Enter your email address:

Delivered by FeedBurner


Copyright 2005-2017 Dan Melson. All Rights Reserved