When a close friend or family member is getting a mortgage, they may ask you to be a co-signer or co-borrower. Before agreeing, you should understand the financial risks that you are taking on by accepting this role. While co-borrowing and co-signing have the same basic premise, they have large defining characteristics that set them apart.
A co-borrower, or joint applicant, applies for the loan with the primary borrower. As a co-borrower, you must sign the loan papers and assume responsibility for repaying the loan. Often times, co-borrowers are spouses who want a larger loan than either party could qualify for individually. The lender uses the financial information from both parties to determine whether or not to approve the loan.
Co-borrowers often get more benefits for the same amount of risk as a co-signer. Co-borrowers receive direct benefits from the loan. As a co-borrower, you share ownership of whatever the loan is for. Additionally, co-borrowers do more to help the primary borrower. A co-borrower’s credit history, income, and assets are considered along with the primary borrower’s. This means that the primary and co-borrower can combine their income and assets in order to meet the lender’s borrowing criteria. However, co-borrower’s credit scores are considered separately when it comes to mortgages purchased by Fannie Mae or Freddie Mac. For loans not purchased through these programs, the lender is likely to put more weight on the credit score of the person with a higher income.
As a co-signer, you assume the liability for the loan if the borrower is unable to fulfill their obligation. However, even though a co-signer may have to pay for the loan, they don’t have any security interest in the property. Additionally, a co-signer may not be able to take the property if they must pay the loan. Lenders prefer to see co-signers that have a good credit history, as this ensures that they will be able to pay off the loan if the primary borrower defaults.
Becoming a co-signer is often riskier than being a co-borrower. As soon as you become a co-signer, the debt will show up on your credit score. If the borrower misses a payment, this can negatively affect your credit score. Co-signing a loan may also affect your ability to get financing of your own. Since you as a co-signer are obligated to pay if a borrower defaults, the co-signed loan will count as your own loan and be factored into your debt-to-income ratio.