Co-signing a mortgage can help out a friend, but amps up your risk

Real estate can sometimes seem like a game of ratios: loan-to-value, debt-to-income, and so on. One comparison that typically supersedes the others in a buyer's mind is risk to reward.

When you purchase your own home, you know you'll face a few risks. You'll likely take on a significant amount of mortgage debt, have to budget for a few upgrades or repairs, and possibly be burdened by a drop in the property's value. But the rewards tend to be greater: a place to call your own, and the opportunity to increase your wealth by building up home equity.

Co-signing a mortgage, by contrast, often seems like too much risk and not enough reward. But the arrangement can be useful if you're looking to help a friend or family member with a home purchase.

People who co-sign a mortgage know they are taking a risk, but are graciously willing to assist someone who is having trouble qualifying for a loan. Grandview Lending, an Indianapolis company, says a co-signer can help strengthen the loan application of someone who has a poor or insufficient credit history, inadequate income to cover the down payment or monthly loan expenses, or too high of a debt-to-income ratio.

Helping out a loved one is the main benefit of co-signing a mortgage. Not only will you help them get a residence, but you'll also assist them with developing a credit history and improving their credit score. One popular example of co-signing is when a parent puts their name on the mortgage to help their child buy their first home.

A co-signer will be released from their obligations once the mortgage is paid off, but they can also get out of the arrangement earlier if need be. Michael Burge, writing for the financial site NerdWallet, says the borrower might be able to refinance the loan on their own after a few years of payments, thus releasing the co-signer.

Co-signing arrangements can be helpful in a number of other scenarios as well. Julian Hebron, writing for the real estate Zillow, says some examples include divorcees who are taking over a home from an ex or self-employed buyers whose tax records may make them less likely to qualify for a mortgage.

However, co-signing a mortgage also makes you just as responsible for its obligations as the borrower you are assisting. Scott Sheldon, writing for Credit.com, says late payments, defaults, and other problems will impact your credit score as well as the other borrower's. Justin Harelik, writing for the financial site Bankrate, says you'll also be on the hook for any payments the other borrower misses. Co-signing can also make you liable in any lawsuits filed by a lender.

Naturally, this arrangement can lead to ruined friendships and estranged familial relationships. A co-signer can easily come to resent the person they tried to help out if they prove less than reliable in meeting the loan obligations. You might even find yourself filing a lawsuit against the other borrower to get reimbursed for their failure to make payments.

Before you agree to co-sign a mortgage, you should first consider your own situation. Burge says you'll essentially be considered another borrower when you co-sign. That means you'll need to have a sufficient debt-to-income ratio, organize the necessary paperwork to present to the loan officer, and expect to have your credit checked.

Co-signing a loan can affect your ability to borrow money in the near future. Sheldon says you might find it more difficult to qualify for new risk, such as taking out an auto loan or applying for a credit card. However, you can usually have the other borrower excluded from consideration of your own loan if you can show that they have made on-time payments for 12 months.

Use extreme caution when considering who you are willing to co-sign a mortgage with. Peter Ortiz, writing for the  National Association of Realtors, says you'll want to meet with the other borrower and have a frank discussion of their finances. Determine whether their troubles with qualifying for a mortgage are based on legitimate issues, such as self-employment or a limited credit history, or more irresponsible behaviors such as overextending their credit.

In some arrangements, the co-signer has no interest in the property and is simply helping improve another borrower's chances of qualifying for a loan. However, you might also want to have your name included on the title. This gives you the option of selling the property if the other borrower fails to meet their obligations.

Since the co-signer might live in a different area or otherwise have limited contact with the other borrower, it is important to periodically check in with them. By regularly calling or e-mailing them, you can see if they are anticipating any trouble with their monthly payment. Harelik says you can also check with the lending institution each month to make sure a payment has been deposited.

Co-signers might consider moving in with the borrower. Sheldon says this arrangement allows for a greater degree of transparency, since you'll have closer contact with the borrower and both of you will have an interest in the property. Hebron says lenders will often check in periodically to verify that the co-signer is still a resident at the address.

If you are not comfortable co-signing a mortgage, there are other ways to help out a friend or family member. Sheldon says you might make a cash gift to assist with the down payment or pay off some of their debts to reduce their debt-to-income ratio. Burge says gifts are a preferable option to loans, since the latter option will still affect the debt-to-income ratio. It can also harm the relationship if the borrower has trouble paying back the money you lend them.

You might also consider helping a friend or family member improve their finances or credit history so they are able to qualify for a mortgage on their own. This might include setting them up with a low interest credit card or helping them improve their accessible savings.

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