Read this before you co-sign a loan

Though the idea of helping someone to get a new home or college fee by co-signing a loan wouldn’t sound risky, it has consequences you may not expect. Read on to know more.

co-sign loan
You would have worked hard to pay bills on time, and this would have earned you a good credit score that might outshine others. People who are aware of this may contact you to co-sign a loan for them. This is because having a co-signer with a good score and an established credit history is an advantage for someone applying for a loan with a lower credit score or thin credit profile.

In this article

Before you co-sign a loan, remember that while it may help the borrower qualify, it has more risks than benefits for the co-signer. It’s a legal pledge to pay their entire loan amount. Co-signing wouldn’t sound risky, but it has consequences you may not expect.

Co-signing a loan can improve the odds of qualifying or receiving a lower interest rate. This is especially if they are new to availing a credit facility or are rebuilding finances. Though the idea of helping someone to get a new home or college fee by co-signing wouldn’t sound risky, it has consequences you may not expect.

High risks and no benefit

If someone is told they need a co-signer for a loan, the lender is not willing to offer a loan entirely based on the income and credit record of the borrower. The lender wants another person — a parent, family member, or friend — to legally pledge to pay back the loan, if the borrower fails to repay. But this does not mean that both of them have equal access to the loan, even though the co-signer bears the financial brunt of repayment.

It may sound like a risk-free, supportive deal when someone co-signs a loan. It, however, puts the co-signer in a vulnerable position with only high risks and no benefit. Therefore, if you or someone you know chooses to co-sign, it is highly recommended that you read the risks and alternatives mentioned below.

A legal pledge

Co-signing a loan is not just helping someone to get a loan when they’re ineligible. It’s a legal pledge to pay their entire loan amount, including miscellaneous expenses if the borrower fails to repay. Also, your credit score would decrease if the borrower is negligent in monthly repayments. Even co-signed loans and payment history are shown on all credit reports. In fact, it will increase the debt load for the co-signer.

Apart from that, you may also be rejected by a potential creditor for credit when you are in need. Your co-signed loan will also be considered as your debt level, and the required credit may not be sanctioned. If the borrower hasn’t repaid the loan and it’s 90 to 180 days past due, the lender might try to get the money from the co-signer before notifying the primary borrower. Moreover, a delay like that would have already affected the co-signer’s credit score. In the worst-case, in some states, the co-signer is responsible for all costs (including attorney’s fees) if you are sued for nonpayment.

More problems

On the other hand, co-signing becomes problematic if the relationship with the primary borrower turns sour. If a couple has divorced, they have financial consequences as well. If one has moved out of the house or given up a co-signed car, it would be challenging to persuade both to repay their share.

Finally, it isn’t easy to withdraw from a co-signed loan. Only in some cases if the primary borrower becomes eligible for a new loan on their own, refinancing the loan would remove you from the deal. It is more difficult in student loans or credit cards as they typically require a certain number of on-time payments for the lender to even consider the primary borrower’s eligibility to make payments independently.

Planning ahead

You should also be aware that all online personal loan lenders don’t allow co-signers. So it’s essential to check before applying. Ask the lender what your rights and responsibilities are and how you’ll be notified if issues arise. You can also ask the primary borrower for access to the loan account to track payments. This could help you find if someone is having trouble with their finances early on before it’s too late. It’s good to be clear by having an agreement in writing that lays down expectations and accountability for everyone. For more information on loans and how they work, read our blogs.

Healthy alternatives

If you don’t want to co-sign a loan, you can suggest the following alternatives to the primary borrower:

  1. Some online lenders evaluate other factors besides credit score. However, annual interest rates will be as high as 20% if you have bad credit.
  2. They can consider offering their home, car, or savings account as collateral on loan. This is known as a secured loan and comes with its own risk. They will lose whatever asset they’re pledging if they fail to repay.
  3. If the borrower wants to rope in a family member to co-sign, they could instead get a family loan. A family loan doesn’t involve a third-party lender. This means there’s no formal application or approval process. Instead, it will be a notarized written agreement between the two parties summarizing terms. Family loans can be helpful if borrowers are looking for cheaper loans or fear predatory lenders. Nevertheless, as always, one of their finances is at risk if the borrower fails to repay the loan on time.

This page is purely informational. Line does not provide financial, legal or accounting advice. This article has been prepared for informational purposes only. It is not intended to provide financial, legal or accounting advice and should not be relied on for the same. Please consult your own financial, legal and accounting advisors before engaging in any transactions.

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