With more and more young couples buying houses together before committing to each other in marriage, it’s paramount for them to understand the way they are seen financially.
For example, co-habitating is not the same as co-borrowing. Neither is co-borrowing the same as co-owning.
Let’s start with that last one, because it trips up lots of people. Borrowing together creates a joint liability. If one of you fails to pay his or her share of the mortgage, the other is responsible for the entire payment. And if the couple eventually splits up, both parties are liable for the full amount of the loan.
But borrowing together has nothing to do with owning together. Ownership is determined by how you take the title – something most buyers don’t even think about until they get to the closing table.
Probably the best way for unrelated co-borrowers to hold the title is as tenants-in-common, where each borrower owns a specific interest in the property. (Caveat: None of this should be considered legal advice. It is always best to seek counsel with an attorney well-versed in real estate matters.) Typically, each owner would take a 50 percent share. But the shares could be different – say, 60-40 – depending on how much each buyer contributes to the down payment or how much of the monthly payment each is responsible for. If the borrowers should eventually marry, they can change their ownership arrangement.
The major advantage of tenants-in-common is that in the event of a breakup, each owner can sell or pass his or her interest to whomever he or she desires, generally without the consent of the other owner. That means, though, that one of you could end up owning the house with a total stranger.
Another drawback: If the split is less than amicable, one owner can file a “partition” lawsuit against the other if that owner is unwilling to sell. The court can then order a sale, with the proceeds split among all owners according to their ownership shares.
When it comes to financing, two unrelated buyers should not assume they have to co-borrow to buy a home. Indeed, each can borrow separately as a single person and pool the proceeds.
“Sometimes two incomes are not better than one,” according to the folks at New American Funding, an independent mortgage company headquartered in Tustin, California.
But many people do choose to co-borrow: combining their finances to qualify for a more expensive house and larger loans. After all, co-borrowing provides a second source of repayment, which is always appealing to your lender.
It also could improve your debt-to-income ratio, which could qualify you for a lower interest rate. But if the extra income comes with extra debt, it could have the opposite effect. In other words, despite the higher overall combined income, the terms offered by your lender could be less attractive.
Co-buyers also should understand that even though their incomes and assets are combined, their credit scores are not. Consequently, if one borrower has a far better score than the other, the lender will evaluate their application based on the lower score, New American Funding explained in a blog post.
In that case, the company suggests that the buyers wait to take out a loan until the borrower with the lower score takes steps to improve it. Another possibility is for the borrower with the higher score to seek financing on his or her own. Of course, the first option means a delay of at least a few months, and the second option probably means the couple won’t be able to buy as large a home.
If you are buying with a family member or a friend, neither of whom is going to actually occupy the house, it may make sense for that person to co-sign for the loan rather than serve as a co-borrower. A co-signer agrees to be held responsible for paying the mortgage if the other signer fails to do so.
On the downside, though, having a co-signer could change the all-important debt-to-income ratio for the worse, causing the lender to require a larger down payment.
The bottom line: Unmarried buyers should take a few extra steps outside the loan process to ensure they are defining and protecting their own legal rights. They should seek legal counsel to draw up a co-habitation agreement that sets out each person’s rights and responsibilities.
Probably most importantly, they should decide, before moving in, how their housing partnership should be dissolved if they split up down the road. It is always better to address that possibility with cool heads and clear thinking, rather than later, when the once-happy duo might be disengaging with anger and animosity.
Don’t rely on the notion that you will “always be friends.” Rather, take concrete steps: Address how you will dissolve your deal while you still like each other. That way, if you do part ways, you might actually do so as buddies.
Lew Sichelman has been covering real estate for more than 30 years. He is a regular contributor to numerous shelter magazines and housing and housing-finance industry publications. Readers can contact him at firstname.lastname@example.org.