A co-signer is a person (parent, grandparent, close family member or friend) who signs a loan with you when your credit score is not high enough, you have not had time to build a credit history and/or your income is not high enough to qualify for the loan payment. A co-signer promises to repay a loan if you default on the payment before repaying the entire loan. Close to 90% of student loans are co-signed in America. Co-signing is also used for mortgages when young people are starting out and have not had time to establish their credit, personal loans and auto loans are also typical times for co-signing. The biggest advantage to the person receiving the co-signed loan is building their credit score.
Disclaimer for Co-signers
If the person asking for co-signing help is not financially responsible, this loan will become the full responsibility of the co-signer. We highly recommend the person co-signing any loan consider this loan their full responsibility and treat all future financial budget planning that this loan will be part of their monthly expense at some point. A co-signed loan will show up on your credit report and will affect your future borrowing ability.
Why Would I Need A Co-signer?
A lender would ask you for a co-signer if you do not qualify for a loan based on your credit score, usage and income
- Credit - if you have not repaid loans in the past or have a history of late payments, lenders will see you as a credit risk. Each lender's requirements vary, but the general rule is that if your score is below 500 you may require a co-signer
- Income - this includes a debt-to-income ratio below 30%. Lenders look very closely at your annual earnings to decide if you have the ability to repay the loan and still have enough to live on. If they think you are taking on too big of a loan for your lifestyle and finances, they may ask you to get a co-signer
- If you have just graduated from high school or college and have not had the time to build up your creditworthiness, the lender may require you to get a co-signer.
- You live in a state whose lending regulations(usury laws)do not allow lenders that charge high interest to originate loans there. These regulations apply to Pay Day lenders whose high-interest rates harm those with already low credit scores.
- You are going through a divorce and require a co-signer to purchase the home from your ex-partner
Benefits of a Co-signer
The benefits of a co-signer will provide lower interest rates, better terms and possibly a more substantial loan amount. Another added benefit is helping you improve your credit score. If your credit is poor, it will be hard to rebuild it on your own and will keep you from being approved for any loan. If your approved for the loan with a co-signer and you make your payments on time, you will rebuild your credit. Next time you apply for a loan, you may not require a co-signer.
Do All Lenders Allow Co-Signers
No, not all lenders allow co-signers. It also depends on the type of loan you are applying for. Most lenders who offer student loans require a co-signer due to the applicant's lack of credit usage, credit history, and employment. Many student loan lenders offer a release from the student loan after 12 months of consistent loan payments. This program provides the student lower interest rates established by your parent's credit score, and within a year releases the student and the parent from this co-signing contract.
Should the applicant stop attending college, the lenders want to know that the loan will be repaid. Types of loans that lenders would allow or encourage co-signers are - mortgages, personal loans, vehicle loans, business loans, private student loans, student loan refinancing and more. Be sure to ask your lender if they allow co-signers should you not be approved on your own.
Loan Requirements With a Co-signer
- Credit check (score, history, and usage)
- Debt-to-Income (DTI)
- Credit Check
- FICO Score - 700+
- Income - $70,000+
- Strong credit history and usage
- Debt-to-Income (DTI) below 30% of income
- Strong Cashflow and liquid assets
If both the borrower and co-signer qualify based on the above criteria, then the underwriters will prepare the loan documents for signing by both parties.
Co-Signing for a Mortgage
When it comes to co-signing a mortgage, there are a few different requirements that the lenders ask for. Often the co-signer is considered a co-borrower when it comes to mortgages.
- Both parties that sign for the mortgage must also be listed on the title to the home or property. The co-signer becomes a part owner of the home.
- The co-signer does not have to live in the house, but if they are on title as joint owners, they both have equal ownership of the property.
- If the occupant co-borrower has made 12 consecutive mortgage payments on time, the non-occupant co-signer can be excluded from future mortgage loan qualifications.
- The total loan and should the occupant miss payments will appear on both occupant and non-occupant's credit reports.
Added Qualifications for co-signers on a mortgage
- The borrower who will be living in the property must have at least 5% down for a conforming loan before they can add a co-signer. Lenders will allow the non-occupant co-borrower to put money down on loans that allow for less than 20%.
- Lenders will calculate the debt-to-income (DTI) by combining the incomes of both the occupant and non-occupant borrower. This is called a 'blended ratio' and is very helpful when the co-signer has a much higher income. As well, some lenders will allow the income from a 'renter' who will be living in the house for 12 months to be included in the 'blended ratio'.
- Often lenders will allow the occupants DTI ratio to go as high as 50% with a co-signer but will require a 10% down payment.
Risks of Co-signing
What are the risks of co-signing?
Once you co-sign for the loan, it appears as an 'open' line of credit on your credit report. If the primary borrower defaults or is late on a payment, it shows as a default and/or late payment. If the loan goes into collections, it also appears as 'collections' on your report. Your credit score is lowered accordingly and could cause you problems when you apply for a loan or credit card. It is important before co-signing to ask the lender if they notify you within the 30 day late grace period so you can make the payment.
If you have co-signed a loan and the primary borrower is continually late, it could very easily cause a break in the relationship. Family gatherings become awkward, and the relationship may never be the same. You may feel that you have to 'parent' and remind this person to make the monthly payment. Trust is broken and is hard to rebuild. A rule to follow is to NEVER co-sign a loan for a friend, co-worker or distant family member. If you do co-sign, be sure that the family member you are co-signing for has a history of repaying all debt promptly.
Should the borrower default on the loan, does the lender expect you to pay it out in full or continue the monthly payments. Will this added payment add pressure to your finances and budget?
Alternatives to Getting a Co-signer
What if you don't qualify for the loan on your own, you cannot find a co-signer or you really just don't want one. Is there an alternative or do you just accept you cannot get a loan? If traditional lenders will not approve you, there are a few other alternatives you could try.
Ask a family member for the loan
Instead of asking someone to co-sign a loan for you, ask if they would be willing to lend you the money (as long as it is a reasonable amount) at a lower interest. Write up a loan document (choose one from the internet) and repay the loan in a timely manner. If you prove yourself, they may be willing to co-sign when you reapply for a loan with a lender.
Use a Peer-to-peer lender
There are several online peer-to-peer lenders that are reputable. Credible has many peer-to-peer lenders.
Get a secured credit card
A Secured credit card that reports to all three credit bureaus is a great way to rebuild your credit. You just have to make one purchase a month and pay it off before the end of the month. This rebuilds your history and usage. You can raise your credit score significantly.
If you cannot get approved or find a co-signer - wait. Work on your credit. There is nothing else you can do. You do not want to take out a high-interest loan and hurt your credit further. Sometimes patience and restraint are your best friend.
Is the co-signer obligated for the entire term of the loan or are they able to be released at some point? This is a really good question if you are planning to co-sign a loan or mortgage. Lenders do not usually grant a co-signer's release until the debt has been repaid in full, but some loans will have a clause that allows the co-signer to be released if certain conditions are met by the primary borrower.
Reasons for a co-signer release
Co-signers are often worried that the person they co-signed the loan for may default and they will be left with having to make the monthly payments or repay the loan in full. As well, the default is reported on their credit report affecting their ability to apply for new loans or credit. Federal Student Loans have a clause that states if the primary borrower dies, the loan is wiped out and the co-signer is not responsible.
But, the borrower is also at risk should their co-signer die or declare bankruptcy. Many loans, especially private student loans have a clause in them that states, should the co-signer die or declare bankruptcy, the loan becomes payable in full and due within 30 days notice. Some private lenders can place the loan in immediate default even If the primary borrower has made consistent monthly payments on time. The Consumer Financial Protection Bureau (CFPB) recommends that the borrower and co-signer protect themselves by applying for a co-signer release as soon as possible.
Steps for a co-signer release:
- Contact the lender to find out their process. Lenders will not initiate a call to see if the primary borrower or co-signer would like a release. The primary borrower must make the call. The CFPB has sample letters you can use and edit to your situation. Be sure to get everything in writing from the very first call. Ask for details to be sent via email. Also, keep copies of forms you fill out and send to the lender.
- Secondly, you will need to gather the information and documentation required to prove that you are able to carry the debt yourself. While this documentation will vary between lenders the standard information asked for is as follows:
- proof of graduation (diploma, transcripts from a certified program)
- proof of full-time, permanent employment (W-2 forms, Tax forms, paystubs for 90 days and all other forms of regular income)
- must be 18+, U.S. citizen, a permanent resident with proof
- be current on all student loans and have made on-time consecutive payments for the previous 12 months on both interest and principle. Interest only payments will not be considered.
- show credit-worthiness on all other payments (lender will make a hard inquiry on your credit report)
- no previous or open bankruptcies, regular delinquencies, or other student loans in default
- Submit your application and documentation - some lenders may require a hard copy so be sure to photocopy everything for your own records.
- Wait for an approval. Often students apply for a co-signer release and have not established themselves for a long enough period. Be sure to find out the timeline to apply for a co-signer release from your lender to ensure you are approved
Alternatives to a co-signer release:
Another way to remove a co-signer is to consolidate or refinance your student loans. Besides removing the co-signer, you may be able to secure better terms and rates with a consolidation or refinance.
Mortgage Co-signer Release
If one of the co-borrowers on a mortgage document dies, the remaining person is liable to cover the mortgage payment. Some lenders may try to invoke a 'due on sale clause' that requires the mortgage to be fully paid upon sale. In other words, they can force the sale of the home to pay out the outstanding balance of the mortgage. The Federal Law has put restrictions in place that prohibit lenders from forcing the sale of a home when one of the co-borrowers dies. Often, lenders will offer mortgage insurance for a small monthly premium that covers the outstanding balance of the mortgage in the event of a death.