Cosigning a loan is almost always a bad idea.
Imagine these scenarios:
Your sister has three kids and needs a bigger place to accommodate her growing family. She has a decent job and has saved enough money for a downpayment on a home, but due to mistakes she made a few years ago, she doesn’t qualify for a loan.
Your partner desperately needs a new car to get to work. He’s made some financial mistakes, but most weren’t his fault, and he’s working hard to regain stability. However, he needs reliable transportation.
Your kid just turned 18 and wants to embark into the world. They have no credit history, so they can’t rent a place.
All three turn to you, the financially stable person in their life, and ask for help. Will you cosign?
You Want To Help
Each of these scenarios tugs at your heartstrings. You desperately want to help the people you love, and you can see how hard they’re trying.
Lack of access to credit is a giant limitation holding them back in life, and you can help. All you have to do is sign your name on the dotted line.
What’s the worst that can happen?
Risk of Cosigning a Loan
When you cosign, you risk your own financial security for someone else.
Is that a risk you’re willing to take?
Consider the top ways you put your financial future at risk by cosigning:
- Impact on your credit
- You might have to pay
- When you can’t pay
- Ownership
How Cosigning Affects Your Credit
In the best-case scenario, the primary borrower will pay off the loan on time every time, and you’ll never have to worry about it.
However, even this scenario impacts your credit. The loan you’ve cosigned gets included in your credit rating, increasing your total credit used and decreasing your available credit. You may find that you can’t qualify for credit line increases because you have too much debt.
The impacts on your credit score are far worse if they don’t pay.
When They Hide It From Your
Friends and family often feel guilty about hurting someone, so they hide the problem until it’s too late.
I cosigned a home loan for my brother, and when his family hit a financial rough patch, he fell behind on the mortgage. However, he thought he’d be able to catch up in a month or two, so he never told me, hoping he’d solve the problem and I’d never have to know.
The missed payment hit my credit score just as I was attempting to buy a new home for myself.
I had no idea he missed payments until I saw the report, and by then, he was two months behind. I had to pay the entire delinquency to qualify for my new home.
You Pay if They Don’t
The next significant risk of cosigning a loan is that you will be responsible for payment if the other person doesn’t pay.
I also cosigned a car loan for an (ex) boyfriend, and after we broke up, he simply refused to pay. He used the car to weasel his way into my life in any way he could, holding it as a manipulation tactic over my head in desperate attempts to get me to do what he wanted.
After finally escaping the emotionally abusive relationship, I refused to get sucked back in. But because I refused to speak to him, he refused to pay.
I had a new car payment for a car I didn’t even own. I had to pay to maintain my credit score.
If you’re going to cosign an auto loan for someone, make sure you can afford the monthly payments.
What If You Can’t Afford It?
Luckily, I could afford the car payment on my salary without stretching my budget too thin.
But not everyone can afford a surprise extra payment each month.
If neither of you pays, both your credit scores will suffer. The primary borrower won’t care as much because their credit is already poor. It will impact the cosigner far more.
You may lose access to credit or pay more to access loans. Repossessions and foreclosures can impact your credit for up to seven years.
Ownership
When you cosign, you typically only lend your name and creditworthiness to the deal but don’t receive an ownership stake in the purchase.
I couldn’t get the car back because it wasn’t my car. It was his car; my name was just on the financial statements.
However, you can arrange to be a partial owner in most deals involving a cosigner. If you’re going to cosign for a car or a home, you should ensure you’re named as an owner.
When is it Okay to Cosign?
Cosigning a loan can have long-term impacts on your financial life, but that doesn’t mean it’s always a bad idea.
There are a few scenarios where cosigning makes sense.
Parents should cosign loans for their young adult children to help them get a head start in life. It helps build generational wealth and gives the kids a solid foundation to make their mark on the world. Parents with good credit can help their kids get lower interest rates by cosigning, giving them precious wiggle room in their starter budgets.
However, the parents should only cosign if they know their child is responsible and they can afford to take the financial hit should something happen. Cosigning for an 18-year-old will help build their credit and introduce them to financial responsibility.
Married couples can cosign with each other in healthy relationships where both partners have a history of financial responsibility. However, married couples should always choose the joint owner option to ensure equality.
Student Loans: The Massive Elephant
Student loans create an undue burden for both parents and students. Parents want the best for their children, so they cosign on massive student loans to help them pay for college. Many parents also take on the debt burden by taking out parent-plus loans to fund education.
Before financing a child’s education, ensure your financial future is secure. Don’t finance education loans if you’re not on track for retirement. Your kids can find other ways to pay for college, but you can’t find other ways to pay for retirement.
If you can afford it, you should absolutely help your kids with college loans to give them a head start in life. However, you must be prepared to repay any loans they can’t.
When Not To Cosign
There are far more scenarios where you shouldn’t cosign a loan than where you should.
Head these warnings to ensure your financial security:
- Never cosign a loan for a friend, no matter how close you think you are
- Never cosign for your siblings
- Never cosign for a partner if you aren’t married
- Never cosign because you feel pressured
- Never cosign because you feel guilty
- Never cosign if you feel uncomfortable about it in any way
- Never cosign if you can’t afford to take over the payments
- Never cosign for someone who’s “just made a few mistakes”
- Never cosign for someone who refuses to accept responsibility for their mistakes
- Never cosign if you’re in an abusive relationship
- Unless you have to because you fear for your safety
But I Want to Help!
We often cosign for family and friends because we want to help them. We empathize with their situation and truly believe that they can do better.
Don’t do it.
Lenders refuse to issue them loans for a reason. They’ll probably default, and you’ll be left holding the bag.
But you can still help without risking your creditworthiness:
- Shop with them for more affordable options
- Give them money for a downpayment
- Help them find funding options for people with poor credit
- Teach them financial literacy
Sometimes, the best help is letting someone fail on their own. People with a history of bad decisions won’t learn if you constantly bail them out. They have to learn how to manage without their backup plan.
Tips for Cosginers
If you decide to cosign, protect yourself for the life of the loan. Schedule regular conversations with the borrower to ensure they’re financially stable. Check your credit report to spot any delinquencies the moment they appear because you can never fully trust someone to be truthful about their financial situation. Keep extra money in your budget to make any missed payments.
The most crucial tip is to stay emotionally detached. Someone with bad credit will try to manipulate you into signing for them. Don’t become liable for their poor choices.
Only cosign for people in your immediate family with a proven track record of responsibility.
A Personal Decision
Ultimately, only you can decide if cosigning a loan is a good decision for you and your family. Getting a loan isn’t easy, especially for young adults with no credit.
However, it should be easy for people already established in life, so if someone with bad credit asks you to cosign, it’s probably a bad idea.