Using Co-signers and Gifts for Your Downpayment
Young homebuyers are having a rough time compared to their Boomer parents when they were first-time homebuyers. Today’s buyers have more student debt, slower wage growth and are building wealth later in life than their parents did at the same age.
With so many hurdles to cross, your parents may be thinking of co-signing your mortgage loan to help you get into a home of your own. It’s a true act of love, but it doesn’t come without risk.
According to The Lenders Network, a co-signer can only help if your income-to-debt ratio is too low, or if you have a shallow credit history. In a co-signing situation, the lender will use the lowest of the your parents and your credit scores, which will likely be yours. Adding your parents’ income will improve the ratio, but they’ll be taking on considerable risk on your behalf.
More debt could lower their credit scores and make it difficult for them to obtain other loans. They’ll be as liable for the loan payments as you are, without having any ownership or equity in the home because their names won’t be on the title and deed, unless you structure the purchase that way. And in the worst case, they’ll have to make any monthly payments that you miss.
So what are the advantages? Making the payments on time and in full will improve your credit scores. Once your financial situation improves, you can refinance the mortgage loan to your name only.
Another way to accomplish home ownership is to use gifts for the downpayment, but gifts have to be documented carefully. Is your parents’ money a gift or a loan? Unless the terms are clearly defined, don’t mix the gift with your own funds. It alters your bank statements and raises your income both of which could muddy your financial picture.
Lenders require a paper trail for all monies. They also limit the size of gifts in relationship to the total down payment. Some loan programs require the borrower to contribute at least 3% to 5% of the down payment if the down payment is less than 20%, while other programs allow the entire down payment to be supplied by a gift.
To avoid questions, provide a certified down-payment gift letter or sign an affidavit that explain:
The amount of the gift, accompanied by a corresponding cashier’s check, including a photocopy of the check
The name and address of the gift-giver and relationship the gift-giver has to the homebuyer
The purpose of the gift – to be used only as a down payment on the subject property, complete with the property’s address
A statement confirming that the gift is not a loan, and does not need to be repaid
Signatures of the borrower and the gift-giver
If you’re planning to use a gift as part or all of your down payment, ask your lender how to meet all the appropriate requirements.