Co-Signing a Loan: Nice Gesture or Financial Suicide?

One the realities of our credit-run financial system is that you need to have some way of proving that you will meet your obligations. You know that if you do not have a sufficient credit history, or if you have poor credit, you might need a co-signer.

But what if you are the co-signer? If you have good credit, you might find yourself facing requests from friends and family to help out by co-signing on a loan. However, before you sign on the dotted line, it is a good idea to realize what you are getting into and what co-signing a loan really means.

A Co-Signer is Responsible for the Debt

The first thing you need to consider is that you are responsible for the debt, if you are the co-signer. The creditor can even come after you before going after the borrower if there is a problem. When you co-sign a loan, you are guarantying that loan. This means that if the borrower misses payments, or defaults, you are the person that is held responsible. Because you are responsible, the loan you co-sign will affect your credit — and may even affect your ability to get a loan in your own name.

Consider your financial situation before co-signing. Do you have enough money to cover the loan if you have to? If so, co-signing might not be such a bad idea. However, if you do not feel as though you can take on the financial obligation, decline to co-sign. Another financial consideration is whether or not you plan to apply for credit on your own anytime soon. The lender will check your credit, and your debt to income ratio will be affected by your decision to co-sign. If a home or car loan is anywhere in your near future, you should seriously consider not co-signing for the loan.

Can You Trust the Borrower?

My parents co-signed on my first car. They had to. I had no credit history. But they knew I was responsible, and they made it very clear that if I missed any payments and if they had to cover for me, my car would be “repossessed” for use by other members of the family. It wouldn’t be mine anymore. I never missed a payment on my car loan, and the experience helped me begin establishing my credit history.

But not everyone can be trusted. Does the borrower have a track record of responsible behavior? Does he or she have the resources to make payments on the loan? These may be uncomfortable points of consideration when lending money to friends and family, but they are necessary if you want to protect your own financial position. If you do not feel comfortable with the idea that your credit score is reliant on the payment behaviors of your friend or relative, you should probably not co-sign.

Saying No

What does it really mean to co-sign a loan
…and to co-signing a bad loan.
Creative Commons License photo credit: Atom Ess

While saying no can damage a relationship to some degree, consider the damage that might be done if you say yes — and then become responsible for the loan. If you are not comfortable co-signing, simply say that you are not in a financial position to do. Or, if you have the resources, and you feel the friend or relative will be responsible, you might offer to lend money you can afford to lose at a low rate of interest. This way, you may be out the money, but your good credit will remain intact.

What would prompt you to co-sign on a loan? Have you had a bad experience?

Creative Commons License photo credit: joseph a

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