The Pros and Cons of Co-Signing on a Loan

The Pros and Cons of Co-Signing on a Loan

Millions of Americans seek out loans each year to make a variety of large purchases, from cars to homes and even school tuition. The qualifications for a loan typically center on finances, including aspects like income and credit history. As such, applicants who have bad credit or little to no credit at all often have trouble getting approved.

In order to get around this, many loan companies allow applicants to use a co-signer or guarantor.

Common scenarios in which you may serve as a co-signer is when your young adult child may need a car loan, credit card or assistance renting an apartment. However, before you jump in and agree to be a co-signer for a loan, it is important to understand what you are agreeing to. There are often many drawbacks and only a few benefits to being a co-signer for someone. Learn about the different factors to consider before placing your signature on a contract.

Understanding the Responsibility of a Co-Signer

Before you decide to put pen to paper, you need to understand what it means to be a co-signer for a loan. When you co-sign for someone, you are agreeing to pay any remaining balance that the borrower is unable to pay. For example, if you co-sign on a credit card for your teenager and he or she fails to pay the outstanding balance on it when it is due, you will be held partially responsible. This means your own finances and credit are put on the line.

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A co-signer can help a person to establish credit history, especially when he or she has none. By agreeing to co-sign you are helping someone down the path to good credit to better his or her future. However, the legal responsibility of the co-signer is to vouch for the person applying for credit. You are essentially putting your trust in the borrower to eventually satisfy the loan.

Your Trust Level in the Borrower

How likely is the co-signer to pay his or her bill? That is the question you must ask yourself when deciding to become a co-signer. To help you determine this, take a moment to look at the borrower’s history. Is he or she usually responsible and on time with other payments? Does he or she make good on promises? Even the noblest causes can quickly turn into resentment if you co-sign with someone who is untrustworthy.

You should always take an objective look at the person and how he or she handles business. If the potential borrower is at all unreliable, you should turn down the request regardless of the relationship you have with them.  While it may seem cold-hearted to evaluate your child, parent, sibling or friend for trustworthiness, it might be necessary if you do not want to find yourself paying off someone else’s debt.

Understand That There is Little Return on Your Investment

Co-signing a loan is not always the best choice, for a few reasons. Most importantly, when you co-sign a loan you are engaging in a high-risk endeavor with little reward for yourself. Classic examples are co-signing on mortgages or car loans. When you actively sign for these things, you are helping co-sign for a car you do not drive and a house you do not live in. Your credit score can also be affected by co-signing. When the monthly payments are kept up, your score will increase marginally. On the other hand, if the monthly payments are not met each month, your good credit score could be impacted negatively.

Moreover, lenders are within their legal rights to sue co-signers in the event that payments are not made regularly. It may be shocking to think that lenders would sue you, but if your name is on the loan, you are just as legally responsible as the borrower. When you co-signed on that loan, you agreed to all of the terms of that loan. So if the borrower fail to make payments, both of you are liable to be sued.

Co-Signing Could Strain Relationships

When you are asked by a family member to co-sign for a loan, the situation can become complicated quickly. Often times familiarity can breed contempt in these situations. In the case of a parent-child co-signing event, it could be more energy and effort than necessary to ensure a child makes regular payments.

The same can be said for co-signing with a good friend. If you are constantly reminding your co-signer to keep up with payments it will take a toll on you and the relationship. The time and energy that goes into making sure payments are met to keep both parties out of trouble may lead to damaged or strained relationships.

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If the loan ultimately shifts over to you to make payments rather than the borrower, it can lead to fights and undue stress. It could be the case that after this whole endeavor you are not willing to forget how you were wronged, which can lead to severance of family ties or friendships.

Co-Signing Gives You a Chance to Pay it Forward

Despite the many drawbacks to co-singing a loan, there are some advantages. For example, you can help someone with bad credit push through an approval barrier. It could be the case that the person you are looking to co-sign with had bad credit due to problems outside of his or her control.

If you have judged that he or she will make good on the payments and is overall trustworthy, you can do some good by offering to co-sign. For example, perhaps your co-signer needs a car loan to buy a car for traveling to and from work. In this case, you can help secure a loan to diminish the stress on your co-signer and help turn his or her life around.

Co-Signing Helps Lower Interest Rates

Another benefit is reduced interest rates. When you co-sign with someone and you have good credit, the interest rates offered will be lower. Otherwise, interest rates on that loan may be astronomical if the borrower has bad credit and signs alone. Helping to secure lower rates for the borrower with your credit can make it easier to repay the loan. In turn, this will increase your co-signer’s credit score, bettering his or her standing for loans in the future.

Your Credit Score Can Benefit

Your credit score can also benefit from co-signing a lease. If you are already in good standing and you have a trustworthy co-signer, this may be a good way to help improve your credit score. Even if you have a phenomenal score, it can always be improved. Each time your co-signer makes regular payments per month, not only does his or her score improve but so does yours without any work from you. As a co-signer your score will continue to stay in the premium range if payments are made on time.

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By Admin