I co-signed on a mortgage with a friend. Now he has fallen behind on his payments. Can I take over the property?
UPDATED: January 20, 2020
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If you co-sign a mortgage and are listed on the property title, you can bring a partition action to have the property divided between owners. If the property is owned by two people, then one will receive the title and the other will receive an equity interest in the property. That equity value is the market value of their percentage of ownership in the property minus any liens. If you bring a partition action, you may leave with the title and your friend will leave with a percentage interest. This will leave you free to control the mortgage payments without worrying about losing the property. A real estate legal expert in your area would be able to tell you if this is an appropriate action in your situation.
Mortgage Co-Signers & Taking Over Primary Borrower's Mortgage Payments
At some point, you may be asked to co-sign a loan to buy real property for a relative or friend because the relative or friend has insufficient credit to qualify for the desired mortgage loan. Most people who are asked to co-sign a loan in such a circumstance are unaware of the legal obligations that they assume if they sign a loan where they are co-signers.
A mortgage loan is a legal and binding contract. If you co-sign a loan for a relative or friend, the co-signer becomes personally obligated under the loan if the primary borrower fails to honor its terms by making monthly mortgage payments. Unfortunately, the co-signer often has no ownership interests in the real property purchased by the primary borrowers. This property functions as security for the loan and the co-signer is personally obligated for its payment if the primary borrower does not honor his or her obligations under the mortgage loan.
The Mortgage Loan and its Security
In most real estate transactions, the buyer of a piece of real estate needs to obtain a loan to assist in the purchase of the property. Loan applications are made to various lenders, the loan gets approved on set terms such as interest rate, dollar amount and term of the loan (most standard loans are for 30 years). A promissory note is typically signed and secured by a recorded trust deed on the real estate property purchased. The buyers and the co-signer would sign the promissory note in favor of the lender as well as other loan agreements.
Purchase Money Loan Considerations
Most U.S. states have laws that prevent a deficiency judgment against the buyers of real property by the lender if the purchased property is foreclosed upon and sells for less than what is owed on the loan, as long as the default loan is used in the purchase of the property, hence "purchase money" loan. A refinance of a purchase money loan ordinarily does not afford protection of a deficiency judgment if the property secured by the loan goes into foreclosure. In California, even if a loan is not purchase money, if the lender foreclosing on the loan does so with a non-judicial versus judicial foreclosure, there is no deficiency judgment against the property owner. This is true even if the property eventually sells for less than what is owed on the loan.
Mortgage Co-Signer Rights: When Primary Borrowers Fail to Make Payments
The co-signer on a loan is in an unfortunate position when he or she receives notice from the lender that the primary borrowers are not making their monthly payments on the loan that was co-signed. Most likely, the co-signer has no ownership interest in the secured real estate property. At best, the delinquent monthly payments will diminish his or her credit scores. At worst, assuming the security for the co-signed loan is foreclosed upon, there may be a deficiency judgment that the co-signer and the primary borrowers. This may depend upon the type of loan and the laws of the state where the real property is located and may further harm the co-signer's credit score and result in a money judgment owed.
Practical Concerns about Co-Signer’s Payments on a Mortgage Loan
If the primary borrowers fail to make payments on the mortgage that is co-signed, the co-signer has the right to make the monthly payments on the loan to cure any deficiency. Such payments under the law result in an equitable lien upon the secured property and an implied obligation that the primary borrowers owe the co-signer for repayment.
From a practical standpoint, before the co-signer even decides to make payments on the primary borrower's mortgage loan when payments are not being made, the co-signer needs to decide if payments on the property are an exercise of throwing "good money after bad." Meaning, is there enough equity in the home to justify the payments to cure monies that have not been paid monthly on the loan and in the future? If there is not enough equity in the home to justify future payments by the co-signer, then options such as a short sale of the property should be explored with a real estate agent and a real estate attorney.
If there is equity in the home to justify payments by the co-signer, there should be a written agreement prepared by a licensed real estate attorney and signed by the primary borrowers and co-signer detailing what will happen if the co-signer cures the failed monthly payments and makes future payments. How will the co-signer be reimbursed? Will the home be sold soon? Can the existing mortgage be refinanced to reduce the monthly payments and exclude the co-signer from the new loan? Can the primary borrowers make payments in the future on the existing loan? Becoming a co-signer on any loan, especially a mortgage loan, has hidden ramifications if the loan is not kept current by the primary borrowers. Although the co-signer can step in and make payments on the loan when it is not being kept current by the primary borrowers, economic realities may not justify these payments.