Having Debt Count Against You, When Someone Else Makes the Payment
**Update: As of May, 2017, Fannie Mae released updated guidance with regard to loans paid by an outside party --- for Conventional loans underwritten to Fannie Mae standards, if the lender can provide evidence that a non-borrowing party has made 12+ timely payments on a debt, that debt does NOT have to be counted against the borrower, regardless of whether or not the account is in their name. See full announcement here.***
In the world we live in, where the majority of people are in debt, the situation is becoming more & more common where people are trying to qualify for mortgage loans, but on their application, it appears they're in over their heads in debt, and therefore cannot qualify. Then we find out that a bunch of debts shown are actually being paid by someone else. So should they count against a borrower if someone else is paying them? More importantly, DO they count against the borrower in qualifying?
The answer is the same as with so many other questions in the mortgage world - it depends.
Overall, a lender wants to make certain of one thing on all accounts - that their lien position is not going to be jeopardized by any default of debt (this is why tax liens must be addressed before a mortgage can be obtained). Some debts WILL be open to judgements, and therefore, a lender's lien position. Other debts typically will not. The TYPE of debt matters, as does the arrangement. Is the borrower a primary borrower? A cosigner?
Let's look at a few examples:
Scenario #1: Parents cosigned for their child's student loans. Child is in school, and the loans are currently deferred, with an agreement between the parents and their child that once repayment begins, the child will be 100% responsible for the payments.
Does the debt count against the parents?
It sure does. With no payment history to document anyone else making the payments, a lender will factor 100% of the student loan payments into the parents' debt-to-income ratios.
Scenario #2: Mom cosigned for daughter's new car since daughter didn't have any credit. Agreement is made between mom & daughter that daughter will make all payments. 24 months later, mom wants to buy a home.
Will that car loan count against mom?
Maybe. If daughter has a history of payments made on time, documented with bank statements or other financial documents that show a consistent payment history of the same dollar amount, chances are a lender can exclude that debt. However, if payments have a history of delinquency, cancelled checks show varying amounts, or mom had to step in once or twice along the way to make a payment here & there for daughter, then the lender will count the debt against mom. In these situations, lenders are looking for seasoning on the payment history, and consistency.
Scenario #3: Daughter buys home for mom (who has credit too poor to qualify for a mortgage), and daughter is the only one on the mortgage & title, but doesn't live in the property. Mom makes all mortgage payments, on time, for 48 months, and saves every bank statement and cancelled check along the way to document that she, in fact, is the one paying the mortgage. After that 48 months, daughter wants to buy a home of her own.
Will the mortgage mom's been paying count against daughter?
Yes. Since mom is not on the loan, and the daughter was an individual borrower, the debt will count against her, regardless of where the daughter lives, whom is making payments, or for how long. The daughter's best option would be to add mom to title, and wait the proper waiting period (6 or 12 months) before refinancing the mortgage into just mom's name.
In the above scenarios, a couple of things become clear. For one, to exclude a debt from someone's debt-to-income ratios, things need to be documented extensively. Cancelled checks, bank statements, and letters of explanation are usually all required to show a satisfactory history of a debt being paid by someone else. Also, only cosigned accounts are eligible. If an individual has an account in only their name, then it does not matter who makes payments, that individual will be responsible in the eyes of a lender.
It is entirely possible to exclude certain debts from a borrower's mortgage application, but only if we can document a history, a consistency, and the account is a cosigned account. When cosigning an account, it's important to consider whether you'll be buying a home in the near future - most lenders will require at least 6, but more frequently, 12 months of evidence before excluding a debt from someones application.
This is also another reason why it's so very important to get pre-approved for a mortgage well in advance of looking at homes. Getting your ducks in a row, ensuring anything that needs to be seasoned HAS been, and being aware of the documentation that will be required will all make the home buying or refinancing process far easier. It could be the difference between home buying being a pleasant experience, or one headache after the other.
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