In Boulder County, home prices have risen to record highs in a housing market with inventory at historic lows and robust buyer and investor demand. Consequently, it has been much more difficult for first-time homebuyers to find starter homes.
Frequently, first-time homebuyers will turn to relatives to help with a down payment or to co-sign on the loan. However, all the parties involved need to be very aware of the pitfalls before agreeing to this arrangement. It is imperative to first meet with a qualified mortgage loan officer to determine how much a borrower might qualify for on their own compared with how much the borrower would qualify for with a co-signer. Next, it would be wise for both parties to meet with a financial planner to make sure they are on the right track with their decisions. A financial planner can help determine if the overall transaction is realistic. Often the primary borrower will end up borrowing more than they can really handle. This results in the co-signer being asked to step in to help – and that can put a strain on their relationship.
It is critical for the primary borrower to know what they are asking from a potential co-signer and also for the co-signer to have an understanding of what they are getting into.
Here are a few discussion points for the co-signer and the primary benefiting homebuyer:
1) Co-signing a mortgage will affect your credit. If the person you are co-signing for doesn’t make the payments, it will appear on the credit report of both parties. This could lower the co-signer’s credit score and affect their ability to get a loan of their own. Make sure you feel comfortable being responsible for making the payments if the other person doesn’t.
2) As a co-signer you are jointly and severally liable for the loan. This is a fancy way of saying if the primary borrower suffers a job loss, the co-signer is responsible for making the payments in order to maintain good credit.
3) As a co-signer, the loan will be added to your total debt ratio. If you aren’t planning on applying for a loan of your own anytime soon, that may not matter to you. However, if you are planning to apply for one, the co-signed loan will figure into your total debt payments and might affect your ability to qualify for a loan. Once the loan has seasoned for a year, the monthly debt will no longer be considered if the co-signer is applying for another mortgage. Be sure to check with your mortgage lender to see what specifics apply to the particular loan program you are using.
4) Get ready for a loan application. Often co-signers think all they need to do is simply sign their name at closing. A co-signer will be required to go through the same loan application process as the primary borrower. This means providing all your financial information to the lender for them to assess your creditworthiness. This can be a significant and time-consuming experience.
5) Think back to the initial meeting with your mortgage loan officer and financial planner. Ask yourself whether or not co-signing with a benefiting buyer is truly an advantage. If the proposed payments are more than the primary borrower can afford, you will likely be called upon to help with those monthly payments. That is fine if you are prepared to do so and can manage it.
Other options to consider when helping a first-time homebuyer or anyone who may need help with a mortgage loan:
1) Consider gifting enough down payment so that the mortgage loan amount is low enough for the primary borrower to qualify on their own. If a borrower can come up with a 20% down payment, they can also eliminate private mortgage insurance on conventional loans, making it easier to qualify.
2) Consider buying down the interest rate to lower the payment to a level where the primary borrower can qualify on their own.
Be sure to consult with your mortgage lending professional, your financial planner, and your Realtor® as you make these decisions.
By Duane Duggan. Duane has been a Realtor for RE/MAX of Boulder since 1982. Living the life of a Realtor and being immersed in real estate led to the inception of his book, Realtor for Life. For questions, e-mail DuaneDuggan@boulderco.com, call 303.441.5611 or visit BoulderPropertyNetwork.com.