Last update: November 8, 2023
7 minutes read
Navigating the world of cosigning? Dive into the pros, cons, and essential insights to make informed financial decisions. Boost your loan knowledge today.
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Ever been in a situation where a buddy or maybe a cousin approached you, eyes full of hope, asking you to play the financial hero in their loan story? Cosigning a loan can be a solid choice to help someone out, but let's get real - it's not just about scribbling your signature and calling it a day. This decision could have a big impact on your financial future.
Cosigning means you're legally guaranteeing someone else's debt
If the primary borrower defaults, the cosigner's credit score can be affected
Both cosigners and co-borrowers share responsibility for a loan, but they have distinct roles
A cosigner is like your buddy who's got your back when you're a bit short on cash. They're vouching for you, saying, "Yeah, if this dude can't pay up, I got it." They don't get any of the loan money, but they're on the hook if you go MIA.
On the flip side, a co-borrower is in the game with you. They're not just on the sidelines. They're sharing the ball, getting some of the loan money, and yes, they're equally responsible if things go south.
21% of U.S. adults have taken the plunge and cosigned a loan to help out a loved one. But here's the kicker:
18% of those kind souls ended up losing money.
20% saw their credit scores take a nosedive.
Alright, let's talk about something we all secretly care about – our credit scores. Ever wondered how a little signature can send those three-digit numbers soaring or sinking? Let's break it down.
When you cosign, that loan appears on your credit report -everyone checking your credit will see it. If the primary borrower is rock-solid with payments, it's all good news. Your credit report will show timely payments, and you'll look like a responsible adult.
But, if they slack off? It's not just their score that takes a hit. Your credit will suffer too. This can potentially affect your ability to get loans or credit cards.
But here's the twist: the loan amount counts towards your debt even if they're paying on time. So if you're thinking of, say, getting a mortgage or a car loan, lenders will consider this when calculating your debt-to-income ratio. In simpler terms, it could make borrowing more expensive or even out of reach for you.
Deciding to cosign isn't straightforward. Sure, you're helping someone out, possibly giving them a shot they wouldn't have had otherwise. And if everything goes smoothly, you'll earn some serious karma points. But there's another side to this coin. Here's a breakdown of the advantages and disadvantages of becoming a co-signer.
Building Trust: You're showing the borrower that you believe in them, strengthening your bond. Not only that, but you’re allowing them to qualify for a loan they may not have been able to get.
Credit Boost: If the borrower pays on time, it can positively reflect on your credit report.
Financial Literacy: You get an inside look into loan management, which can be a learning experience.
Credit Risk: If the borrower defaults, your credit score can take a hit.
Increased Debt Ratio: The loan amount gets added to your debts, potentially affecting future loan approvals.
Relationship Strain: Money issues can create tension or conflicts in personal relationships.
Potential Legal Hassles: If things go south, you could be facing legal implications.
Financial Unpredictability: Life's crazy, right? Jobs are lost, and medical emergencies happen. If the borrower can't pay, you'll be in the spotlight.
When I was signing up for my first credit card, my parents agreed to become co-signers. I was able to use their credit history to get approved for the card in order to build up my own credit.
Here’s why it worked - they trusted me to be responsible about making payments on time so that their score wouldn’t be hurt. Had I failed to do so, our relationship could have been seriously strained.
Now, if you're still thinking, "I'll be the hero, what's the worst that could happen?", let’s get into it. Cosigning isn't just about trust - it's about the nitty-gritty of dollars and cents. If the main borrower defaults, guess who's getting the call? Yep, you.
Being a cosigner means:
You're responsible for the debt if the other person bails.
Your credit score is on the line.
You don't have rights to the asset you’re funding (if there is one), even though you're on the hook for the bill.
And here's the insane part: you could face collections before the primary borrower.
A cosigner release is a beneficial provision offered by some lenders, allowing a cosigner to be removed from a loan. This means that the cosigner is no longer legally obligated to the loan's responsibilities. For this to happen, the primary borrower usually needs to demonstrate a certain level of financial stability.
The criteria for a cosigner release can vary among lenders; typically, they require the primary borrower to make a certain number of on-time payments. This period could range from a year to several years.
When comparing lenders, it's essential to understand their cosigner release policies, as this feature could be a deciding factor for borrowers in choosing their loans.
Before we wrap up, here’s a quick cheat sheet of do’s and don’ts to keep in mind when deciding whether to become a cosigner:
Research the loan thoroughly
Discuss terms with the borrower
Monitor the loan payments
Have an exit strategy
Dive in without reading the terms
Assume the borrower understands everything
Forget to check in periodically
Avoid discussing potential problems
Now, if all this talk about cosigning has your head spinning, don't sweat it! At TuitionHero, we're all about helping students and parents navigate the challenges of college finances. We get it – understanding loans, especially when you're considering being a lifeline for someone else, can be overwhelming. That's where we come into the picture.
Our specialty isn't just in offering top-notch financial guidance. We believe in equipping you with the knowledge and tools you need.
From Private Student Loans that are tailored to your needs, Student Loan Refinancing to get you the best rates, to Scholarships that can lighten the financial load, and even FAFSA Assistance to make the process smoother – we've got your back. Oh, and let's not forget about our curated Credit Card Offers designed for students and parents!
Being a cosigner can be less stressful if you opt for a loan with a cosigner release. And remember, while cosigning is a significant commitment, remember that with TuitionHero, you're never alone on this journey. We're here to ensure that whether you're a borrower, a cosigner, or just someone trying to understand the financial ropes, you're making smart financial choices.
Individuals may cosign to help a borrower qualify for a loan they otherwise couldn't get, often out of trust or to strengthen a personal bond.
A cosigner guarantees the loan without receiving any funds, while a co-borrower is equally responsible and also receives a portion of the loan money.
Cosigning can build trust and potentially improve credit, but it also carries risks like credit damage, increased debt ratio, and potential relationship strain.
Research the loan, discuss terms with the borrower, monitor payments, and ensure you understand the implications and have an exit strategy.
Brian is a graduate of the University of Virginia where he earned a B.A. in Economics. After graduation, Brian spent four years working working at a wealth management firm advising high-net-worth investors and institutions. During his time there, he passed the rigorous Series 65 exam and rose to a high-level strategy position.
Rachel Lauren is the co-founder and COO of Debbie, a tech startup that offers an app to help people pay off their credit card debt for good through rewards and behavioral psychology. She was previously a venture capital investor at BDMI, as well as an equity research analyst at Credit Suisse.
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