When Do You Need a Co-Signer For Your Mortgage?

In 2021, mortgage qualification rules are stricter and homes are more expensive as a whole. In this market, it’s not always easy to qualify for a mortgage on your own merits.

You can have a stable job, a decent income, a good percentage down payment, and a great score, but that still may not cut it. This comes up most often for first time buyers.

It comes down to a lender calculating your numbers. They may find that too much of your income is required to service core homeownership expenses such as your mortgage payment, property taxes, heating and condo maintenance fees (if applicable).

This means your debt service ratios are too high, and you will need some extra help to qualify.

Remember:

Your GDSR (Gross Debt Service Ratio). This is the sum of all your core housing costs – your mortgage, property taxes, heating bill and half of your condo fees (if applicable). This total as a percentage of your gross income cannot exceed 39%.

Your TDSR (Total Debt Service Ratio). Includes ALL your other monthly debt obligations ( cards, student loans, car payments etc.) combined with your core housing costs, all expressed as a percentage of your gross income.This percentage cannot exceed 44%.

Who can be your co-signer?

When we look at mortgage co-signers, traditionally, we think about helping out applicants who may have less than ideal history. But, in reality, most applicants who need the help of a co-signer don’t have sufficient income to support their debt service ratios.

There are many instances beyond parents co-signing for their children. We have seen children supporting their retired parents, even siblings and spouses helping each other out as well. More than one person can co-sign a mortgage, if necessary. 

The co-signer is likely to be approved if the lender knows they will help reduce the risk associated with the loan repayment.

Co-Signer Application

When you introduce a co-signer into your mortgage application, they must also go through all the lenders’ hoops. It’s not an easy matter of a check, but a deep dive into their financial landscape. Much like your mortgage application, the lender will look at their assets, as well as their debt service ratios.

What is the Lender looking for in a Co-Signer?

The main focus the lender has when looking at your co-signer is

  1. Income
  2. Credit history
  3. Financial stability

Your ideal candidate for a co-signer should make up for the weaknesses in your application. For example, if your income isn’t high enough for your debt service ratios, find someone who has a solid income. Similarily, if your health is poor, find someone who has an excellent credit score. 

Here’s an example;

A co-signing candidate holds a ton of equity in their home but mainly relies on CPP/OAS and has fully paid off their mortgage. Their lack of income may not make them a great candidate for you, even though their net worth is very high.

Co-signer options

Generally speaking, there are two scenarios for co-signers:

  1. Becoming a Co-Borrower: Involves adding the co-signer’s history and income to the application and is like adding another person as a primary applicant to the mortgage. They will be on the title of the home and will be equally responsible financially if the mortgage defaults.
  2. Becoming a Guarantor: Involves the co-signer essentially vouching for the primary applicant to fulfil the loan repayment. The guarantor is just as responsible for the mortgage, but is not on title to the home. Some people want to avoid co-ownership for tax or purposes (more on this later).
  3. Most mortgage lenders much prefer to have a co-applicant rather than a Guarantor. Especially when the principal applicant’s income is not enough to debt service the mortgage. It’s becoming much harder to arrange a pure guarantor set up – especially if the mortgage as a percentage of the home value is high.

Nine things to keep in mind when thinking about getting a co-signer!

  1. Please make sure you are deserving of your co-signer’s trust and support; it is a rare privilege to find someone willing to help you out.
  1. You have no obligation to co-sign for anyone. Consider if there is any chance you may need your financial flexibility down the road. Is the person asking you for support financially responsible enough for you to trust?
  1. Be sure you completely understand the terms before signing and keep copies of all the paperwork.
  1. If you act as a guarantor or co-signer, you put your credit health in the hands of the primary borrowers. Late payments will hurt both of you. I recommend you keep access to all mortgage and tax account information to spot signs of trouble if they occur.
  1. Understand your legal, tax and even your estate’s position when considering becoming a co-signer. Remember, you will be financially responsible if the primary borrower defaults.
  1. Consider insisting that the primary applicants have disability insurance protecting the mortgage payments and you might also insist on life insurance to ensure the mortgage is paid off if you have an untimely demise.
  1. Think about the tenure of this relationship, and if you can change the terms, should the primary borrower become financially self-sufficient for the mortgage.
  1. Your income tax could be affected. You may be obligated to pay capital gains taxes down the road. It would be best if you discussed this possibility with your tax accountant. This is one of several instances where a bare trust, or beneficial trust agreement set up from day one can keep things the way you all intend. (see below)
  2. Co-signing impacts Land Transfer Tax Rebates for first-time homebuyers. The rebate amount might be reduced based on the percentage of ownership attributed to the co-signer.

Tips from a real estate lawyer

We spoke with Gord Mohan, an Ontario real estate lawyer, for unique insights based on his 24 years of experience.

“The cleanest way to deal with these situations is for the third party (which is typically a parent) to guarantee the main applicant’s mortgage debt obligation,” Mohan says. “This does not require the guarantor to appear on the title to the property, and so it prevents most later complications.”

Following are five key suggestions from Mohan:

  • Co-signers should seek independent legal advice to ensure they fully understand their obligations and rights.
  • All parties should have updated wills to address their intentions upon death and give their executor clear direction with respect to their ownership.
  • Many co-signers try to minimize the future tax impact by opting for 1% ownership and having a private agreement that the borrowers will indemnify them or make them full owners if there is a tax bite down the road.
  • Some co-signers try to avoid future tax consequences completely by having their real estate lawyer draw up a “bare trust agreement”, which spells out that the co-signer has zero beneficial interest in the property.
  • A bare trust agreement can come in handy for the Land Transfer Tax (LTT) rebate, enabling the co-signer to apply for a refund from the Ministry of Finance – LTT bulletin.

The Takeaway

Remember that even if you have a good job, stable income, decent and a nice amount saved for a down payment, it’s no guarantee for a mortgage approval. What is important is your debt service ratios and what the lender is comfortable with. With that in mind, look for a co-signer who adds value to your application where yours is lacking.

If your income is too low for your debt service ratios, find someone with a great income to co-sign. Similarly, if your score is on the lower side, find someone with a high credit score.

Questions answered in this article

Does co-signer, co-applicant and co-borrower all mean the same thing?

Yes it does. They’re all similar as they’re all from the perspective of the mortgage borrower when referencing support when applying for a mortgage.

Can a Co-Signer Avoid Capital Gains Tax Consequences?

Yes they can by asking their real estate lawyer to prepare a bare trust agreement from day one.

What are the most important things a mortgage borrower looks for in a co-signer?

The top three things a mortgage lender looks for in a co-signer are, 1) income, 2) history and 3) financial stability. As a borrower, you’ll want to be certain of these three things before you proceed.