Mortgage applicants will have sometimes signed for another individual for that person to obtain credit or, if the mortgage applicant is self-employed, they may have a liability that is part of their business operation that they are personally liable for. In these cases, this situation is referred to as a “contingent liability.” A contingent liability means that another person or entity is making the payments on the liability, however, if that person or entity fails to make the payment, it will become the responsibility of the mortgage applicant.
One of the primary considerations for a mortgage decision by a lender is the mortgage applicant’s debt-to-income ratio (“DTI”). The higher a mortgage applicant’s DTI, the higher the risk of default to the lenders. In a contingent liability situation, the debt from the contingent liability may be removed from consideration for the mortgage applicant in certain situations.
In the case of a co-signed loan for another party, if it is documented that the other party has made payments on the co-signed loans for the past 12 months (with a minimum of 12 monthly payments made), the co-signed loan, that is the contingent liability, will then be removed from the mortgage applicant’s DTI. However, if the other party has been delinquent on the payment for the co-signed loan at any time since the start of the liability; or, if it cannot be clearly documented that the payments are being made by the other party, then the monthly payment must be included in the mortgage applicant’s DTI.
For mortgage applicants who are self-employed where the business that they own is making the payments for the mortgage applicant, the contingent liability will not be considered in the DTI is the mortgage applicant can document that the business has been making the payment for at least the last 12 months (with a minimum of 12 monthly payments made). In addition, the lender must verify that the payments made are affecting the company’s profit and loss on the company’s tax return. If this cannot be clearly document, the contingent liability will be included in the mortgage applicant’s DTI.
In all cases, if the mortgage applicant indicates that a particular loan represents a contingent liability, there must be another party obligated on the mortgage loan. In situation where the mortgage applicant is the borrower on a liability, and another party is making the payment, but that other party is not obligated to the liability, the liability must be included in mortgage applicant’s DTI.
Contingent liabilities represent a complex underwriting situation and there are many variables that will affect whether a contingent liability is included in a mortgage applicant’s DTI. Always consult with a qualified mortgage professional such as the Loan Officers at Googain, Inc. for more information and to determine whether a contingent liability may be removed for consideration for qualifying purposes.