If your child, another relative, or a friend can’t qualify for a mortgage due to bad credit and asks you to cosign a loan, you might want to think twice. You need to carefully consider both the upsides and downsides. Of course, the upside of cosigning a loan is that you’re able to help a loved one get a mortgage that they otherwise couldn’t get on their own, enabling them to purchase a home or to save interest with a lower rate. But the advice for those thinking about cosigning a loan for a family member or friend is usually not to do it, and if you do, be sure you understand the consequences if something goes wrong.
The big downside to cosigning someones else's loan is that you agree to pay the mortgage if the primary borrower doesn't. It’s very risky for your credit, and potentially your relationship with the borrower, to guarantee the loan. So, before you commit to helping your son, daughter, or other loved one by becoming a cosigner on a home mortgage loan, consider all of the pitfalls.
In this article, you’ll learn about your rights and responsibilities if you cosign a loan, how cosigning affects your credit report and credit score, and how to protect yourself if you do decide to guarantee the loan.
Being a cosigner on a home loan, or any loan, is a status that carries with it no rights at all. While you’ll share liability for the cosigned mortgage with the borrower, you typically won’t get an ownership interest in the property. So, you get the risk of having to repay the loan without any benefit of living in the home or owning a part of it.
As far as responsibilities, you’re 100% responsible for the complete repayment of the loan. Before you cosign, you need to make sure you’re comfortable covering the mortgage payments if the primary borrower can’t.
If the primary borrower makes the loan payments on time, that information might or might not show up on your credit report. It depends on the creditor. Not all of them report to cosigners' credit reports when payments are made on time. Even if the creditor reports the payments to the major reporting bureaus, you’ll likely only get a slight benefit to your credit score. Because you were a worthy cosigner, you probably don’t need more positive notations on your credit report to boost your score.
In fact, you’ll probably see a temporary reduction in your credit score when the lender first pulls your credit before approving the mortgage loan that you're cosigning. This hard inquiry will ding your credit and so will the increase in your overall debt load. Credit bureaus factor in loans that you cosign for as a debt obligation when figuring your credit score. Cosigning a mortgage loan can raise your total debt balance and therefore reduce your credit score. (To learn how credit scores are calculated, see Your Credit Score: What It Is and Why It Matters.)
Knowing of your liability on a cosigned debt, other lenders might refuse to make additional loans to you because you're overextended. So, before you agree to cosign a mortgage loan, consider whether you plan to buy a house, car, or another item on credit within the period that the borrower is paying off the mortgage, which could be decades.
If the primary borrower pays late or, even worse, defaults on the loan, your credit will take a major hit. The borrower might not be too concerned about negative credit reporting because he or she already had bad credit (obviously, otherwise a cosigner wouldn’t have been necessary).
As a cosigner, not only will your credit score fall, you’ll also be liable for repayment of the debt. The lender can come after you as though you were the primary borrower. The lender might contact you and tell you that the loan is delinquent. If you don't bring the loan current or work something out, like a repayment plan, the lender might take further collection steps against you and the primary borrower, including conducting a foreclosure. And, depending on state law, the lender might sue you for a deficiency judgment if the foreclosure sale doesn't bring in enough money to repay the loan.
If you end up paying what's owed to the lender—either voluntarily or because you got sued after the primary borrower failed to pay—you might then need to file a suit against your family member or friend to get your money back. Suing a family member or a friend can destroy what was formerly a good relationship. (Saying no to cosigning in the first place can be hard, but it could save you a lot of stress down the road.)
Also, while getting a judgment against your family member or friend probably won’t be difficult, getting him or her to pay up might be. After you win a lawsuit, you still have to collect the money awarded in the judgment—the court won't help you with this. You might need to hire a debt collection attorney or law firm to assist you.
If you do decide to cosign someone's home mortgage loan, make sure you fully trust the primary borrower. You’ll want to keep the lines of communication open between you and the borrower so you can discuss financial difficulties before they become a problem. Ask the primary borrower for access to the loan account and regularly keep track of the payments, making sure they’re paid on time. It’s also a good idea to prepare a written agreement between you and the borrower upfront so that you both understand what’s expected and what will happen if the primary borrower doesn’t pay.
Also, you might want to consider alternatives to cosigning, like giving money as a gift (perhaps to cover the down payment), lending it directly to your loved one (though you still run the risk of having to sue if the borrower doesn't repay you), or purchasing the home yourself and then renting it to your family member or friend.
For many people, the risks of cosigning a mortgage loan aren't worth it. If, however, after evaluating all the downsides, you’re still thinking of guaranteeing repayment of someone else’s home mortgage loan, consider talking to a real state attorney or debt relief attorney. An attorney can put the terms of the arrangement between you and the primary borrower into a written agreement before you cosign the loan, advise you further about the potential consequences, and answer any questions you have.