Beware Co-Signing for a 'Kiddie Condo' Loan

That college student living in the condo three blocks from campus may actually be a homeowner, with a little help from Mom and Dad.

"It's a great way to train your kids in financial stability," says Lynn Howard of Yorktown, Va., who has helped two of his seven children obtain mortgages so far. "You don't just teach them how to buy a house. You teach them how to own a home."

In the right college town, with responsible and employed young adults, "kiddie condo" loans to students are still possible to obtain. The drawback is a big one: These mortgages require a co-signer. Most financial advisers urge clients against co-signing loans.

Caution for parents

Parents should keep in mind that, as co-signers, they are responsible for repaying the debt if the main borrower defaults.

"It's your credit score, potential penalties and late fees," says Certified Financial Planner professional Robert Schmansky of Clear Financial Advisors in Bloomfield Hills, Mich. "It's your credit that's going to be damaged."

The co-signer has to have enough income to pay his or her own debts as well as the student's mortgage. "It takes a pretty strong parent to qualify," says mortgage broker Lee Moore of Tidewater Home Funding in Newport News, Va.

Being listed as a co-signer on the student's mortgage could make it difficult for the parent to qualify for a loan to buy a vacation home, Moore adds.

Stricter loan guidelines

Since the housing meltdown, federal guidelines are much stricter now for all mortgages, including kiddie condo loans. Until 2008, a child with no income and no credit score could get such a loan with a family member as co-signer, according to the U.S. Department of Housing and Urban Development. Mom's or Dad's credit score was used to qualify for the loan.

Under today's stricter guidelines, the lowest credit score among the borrowers is used to qualify for the loan, says HUD spokesman Lemar Wooley. The borrower with the lowest credit score is usually the person who plans to live in the home.

To pay the mortgage, the students usually recruit fellow students as rent-paying roommates, says Moore. Even so, rent payments from roommates cannot be factored into the loan approval, he says.

Making it work

HUD has provisions for borrowers, such as students, with limited credit histories -- as long as those borrowers don't have bad credit. The borrower planning to live in the home must have no history of delinquencies on rent, no more than one 30-day delinquency to other creditors, and no collection accounts other than medical filed within the past year, according to HUD.

The loans aren't limited to parents or grandparents helping children. Co-signing borrowers can include siblings, stepchildren, nieces, nephews and unrelated people who can document a longstanding family-type relationship, according to HUD. The loans aren't limited to condominiums, despite the kiddie condo nickname.

Skin in the game

It's critical that young adults are invested in their properties, financially and in managing their homes, Howard says.

"I wouldn't let them in with no money -- they had to have skin in the game," he says of his two children who got mortgages with his help. "If the kids can't come up with the down payment, they shouldn't be buying it."

His young adult children deal with broken refrigerators, nonfunctioning air conditioners and roof leaks, Howard says. "They're getting the reward of homeownership. They have to get the responsibility. They're going to have to figure out how to navigate that. Be careful that your child is mature enough to own a home."

The young adults also have to be able to handle being not only a roommate, but also a landlord, says Michael Zaransky, author of "Profit by Investing in Student Housing" and co-CEO of Prime Property Investors in Northbrook, Ill.

"Your friends who typically would be your roommates are now your tenants, and you're the landlord," he says. "You need to have a written document upfront that indicates rent and other expenses on a standard lease form. It can certainly put a strain on relationships if there are issues."