For some first-time home buyers, help from family or close friends can be the key to breaking down the barriers to homeownership.
One of the ways loved ones can help hopeful home buyers is by agreeing to be a co-signer on the mortgage. Co-signing can be applied to most types of loans, not just mortgages. Essentially, a co-signer takes on the responsibility of making the loan payments in the event the original borrower can’t. By providing this extra assurance to the lender, co-signers can help applicants qualify for a mortgage.
David Larock, President and Mortgage Broker of the Toronto-based Integrated Mortgage Planners Inc., has noticed an increase in the number of applicants who are having to add co-signers in order to qualify for a mortgage.
“[I] would say really the first time I noticed a material increase in the number of co-signers would have been when the stress test was introduced both in late 2016 and then again in early 2018, and then again when [Greater Toronto Area] house prices really started taking off as a result of COVID,” he said.
To understand more about how co-signing works, Larock walks us through the ins and outs of what you should know about using or becoming a co-signer.
What is a co-signer and how do they help?
Larock explained typically family members or couples making a home purchase together agree to co-sign. Most often, co-signing occurs between a parent signing on a mortgage for their adult child.
Unlike guarantors, co-signers are included on the mortgage title, making them accountable for payments if the primary borrower defaults. If a co-signer wants to be removed or is no longer needed, they can be taken off of the title after a minimum of one year.
“It used to be that going on as a guarantor was common, but lenders have really tightened that up, and for the most part, lenders want you to go on as a co-signer, which means you have to go on the title,” explained Larock.
Co-signing on a mortgage is usually done as a temporary, short-term strategy for helping new buyers who don’t qualify on their own. For example, if a newlywed couple are paid with a high bonus or a commission component, and haven’t worked in that position for the required two-year period to qualify that income in the mortgage application, they would have to qualify using a lower salary amount.
“In that case, we would add a parent as a co-signer with the understanding that once the newlyweds can qualify on their own—i.e. we’ve reached that two-year point where we can count the bonus income or the commission income—we can then go back to the lender mid-term without breaking the mortgage, prove the newlyweds now have enough income to qualify on their own, and have their parents taken off the title,” said Larock.
In other cases, Larock said a co-signer could be used when a homeowner has bought a new property, but can’t qualify for the new mortgage until their old home is sold due to the costs of carrying both mortgages. A co-signer would help to guarantee payments are made on the new property until the existing property is sold and the borrowers are in a much more manageable situation.
While a co-signer can help you secure a mortgage, it won’t improve your ability to cover the costs associated with homeownership. As most co-signing situations are used temporarily, Larock said the borrowers tend to have a clear line of sight as to when they will be able to afford the loan by themselves through a reliable source of income. Larock explained buyers who can’t afford the property they want shouldn’t be using a co-signer just to buy a home.
“I think that would ultimately be a decision they regret, and in terms of what they can do, they could spend less money,” said Larock. “They can buy a cheaper house and get a smaller mortgage, one they can more comfortably afford.”
What should you know about using or becoming a co-signer?
When it comes to co-signing for someone else’s loan, it’s not as simple as volunteering to make sure payments are made.
Larock said it’s common for co-signing parents to assume simply agreeing to be a co-signer for their child is all that’s required. In fact, lenders will treat co-signers as normal applicants, require all of the standard mortgage documentation, and will consider the co-signer’s income and debts. Once you are a co-signer, the mortgage loan is your financial responsibility.
“Of course, we have to disavow them of that idea and make it clear that when they go on as co-signers, they are joint and severally liable for the full repayment of the debt,” said Larock. “So if the kids take off to Tahiti, the parents can be pursued in full by the lender for the repayment of the loan.”
Becoming a co-signer could place restrictions on other areas of your finances too, like impeding your future borrowing capacity. If a parent co-signs for their adult child, and they then want to buy a cottage after the fact, Larock said the parent’s lender will factor in the cost of the co-signed loan on their application. If a payment is missed on the co-signed mortgage, Larock explained this will also show up on the co-signer’s credit, which will impact their credit score.
Larock noted it’s important for co-signers to think about what percentage of ownership they will have in the property, which will determine the amount of capital gains or land transfer taxes that need to be paid. It may also impact how much the buyer will be able to claim on their first-time home buyer rebate. For instance, if the co-signer is a 1% owner in the property, the primary borrowers will be able to use 99% of their first-time home buyer rebate.
If you’re thinking about becoming a co-signer, or want to ask someone to co-sign for you, Larock said it’s key to inform the co-signer of any tax liabilities, the impacts on any future finance applications and the fact they’ll be taking on the responsibility of the debt. In cases where a co-signer is being used temporarily, like a parent co-signing for their adult child, Larock suggests the child should lay out their plan to support the cost of the mortgage and property on their own down the line.
The advice of an experienced REALTOR® can help first-time buyers and their co-signers navigate the mortgage approval process, as well as finding a home that best suits their needs.
Course CREA News2me June 2021