Imagine that you want to buy a house with a mortgage loan, but you have bad credit.
When you apply for preapproval, you’ll find that lenders can’t offer you the best interest rates. You may have a hard time getting approved because of your credit score. You know your mother has a credit score of 800, so you ask her to co-sign your loan application. She agrees to sign and include her name on the applications.
And just like that, you’re a much more attractive candidate for a mortgage. The lender takes your and your mother’s income into account when reviewing your application. Lenders also take into account your mother’s finances, debt, and credit when they look at your application and decide to approve you for a loan.
From there, your mortgage generally works the same way it would if you were the only person on the loan. You make a premium payment each month to cover principal, interest, taxes, and insurance (PITI), and you enjoy your home. However, the lender can hold the non-occupant co-customer liable if you miss a payment. This means that the lender has the right to take your mother to court and force her to repay the loan.
Cosigning isn’t just for home loans. You may also have a cosigner on personal loans, student loans, and auto loans.
Whether or not you can have a cosigner depends on the type of loan you get. Cosigners are most common on two specific types of mortgages: conventional loans and FHA loans. Let’s look at the limitations for both types of loans.
Cosigner Requirements for Conventional Loans
If you’re looking to apply for a conventional loan with a co-signer, that person will have to sign the mortgage loan and agree to pay the mortgage if the primary occupant defaults on a payment. However, the co-signer does not need to be on the title of the house. The lender reviews your credit and that of the co-signer to determine if you can get a loan.
When lenders review your application, they’ll also look at you and your co-signer’s debt-to-income (DTI) ratio. Each lender has their own standards when it comes to what they consider acceptable DTI. Knowing your own debt-to-income ratio and that of your co-signer can make it easier to get a loan.
Cosigner Requirements for FHA Loans
FHA loans are government-backed loans that allow you to purchase a home with a lower credit score and as little as a 3.5% down payment. If you want to get an FHA loan with a cosigner (you can have a maximum of two), your cosigner will need to meet some basic criteria.
First, the co-signer must be a family member or close friend. Mortgage lenders consider the following family members to be eligible to be co-signers on FHA loans:
- Parents and grandparents (including stepparents, adoptive and foster parents)
- Children (including stepchildren, adoptive and foster children)
- Siblings (including step-siblings, adoptive and foster siblings)
- Political family
- Spouses or domestic partners
If the co-signer is a close friend, you should write another letter to your mortgage lender explaining your relationship with that person and why they want to help you.
The non-occupant co-client must also live in the United States for the majority of the year. That person must have a DTI of 70% or less if you have less than 20% of the down payment. On an FHA loan, the co-signer must be on the title of the home.