What are the risks of cosigning? If you’ve been asked to cosign a loan for a friend or family member, you may have questions. It’s possible you have heard horror stories regarding cosigning — and there are plenty out there. It’s also possible that you don’t think cosigning is a big deal at all. Cosigning isn’t uncommon in the lending industry, but before you agree, consider the risks of cosigning and weigh them against the benefits of helping to determine whether it makes sense for you.
What is Cosigning?
A cosigner is an individual who attaches their credit to a borrower’s request for a loan and agrees to pay a borrower’s debt if they default on the loan. The person asked to cosign typically has a higher credit score and longer credit history. Both of these things increase the borrower’s chances of getting the credit they are applying for.
In a nutshell, there is only one reason why you might consider cosigning for someone, and it doesn’t benefit you. Cosigning helps someone else obtain or build credit. When applying for credit, rejections are common for people without credit history or with poor credit history. Often, creditors will accept an application with a cosigner. Cosigning can give someone the opportunity to obtain the credit they need to move forward in life. Often, it’s challenging for people without a credit history to qualify for credit. If someone is looking to rebuild their credit score, they may be unable to qualify for credit without a cosigner. As a cosigner, you can lend a hand in helping another person establish the credit they need.
What Are The Risks of Cosigning?
There are risks of cosigning that may outweigh the benefits of helping someone you love.
Cosigning Will Show As An Account On Your Credit. Here’s why that matters:
- When you cosign for someone, it counts as a new account on your credit. Any time you have an inquiry on your credit history, it can work against you.
- Once you accept the responsibility of cosigning, and sign the loan or credit documents, you’re tied to that debt, period. You cannot remove yourself from the debt or back out.
- You don’t have control over the accounts, even though you are responsible for them. You don’t get a say in how the account is managed. You can’t transact on the account, and will only be responsible if the account goes into default status, at which point it may have already impacted your credit score.
- You will need to be aware of utilization. Even if the individual pays on time every month, utilization may still work against you because utilization is a factor in how your score is calculated.
- If the person does not pay on time, those late payments or default can drastically reduce your credit score.
- If the borrower does not pay over a long period of time (default) you are responsible for the full amount of the debt. You will experience the negative impact of missed or late payments, and in the event the creditor repossesses a car, home or other piece of property, it can have a long-term impact on your credit history.
Is Cosigning Ever A Good Idea?
To be perfectly truthful, there are zero good financial reason to cosign. That said, cosigning is an intensely personal decision, and in some circumstances, can be a means to a greater purpose. Your reasons for choosing to cosign could outweigh potential financial risks. You could choose to cosign a credit card application or apartment lease for an adult child in an effort to help them build credit and gain independence.
If you choose to cosign, it is important to know the individual you are cosigning for well. If there a significant risk of them missing payments or causing problems, you probably do not want to cosign for them. If you know you can trust them and you truly believe they will pay on time, it may be a chance you are willing to take. If you do, just be sure you fully understand all the impact that can potentially come with cosigning and weigh out the risks of cosigning to you financially. You may also want to consider your relationship with that individual and how it may be impacted if they make a mistake that falls on you to shoulder.
In the end, you are the only person who can make the decision about whether cosigning is right for you or not. It’s not a choice that you should feel pressured to make by someone else. Know what makes financial sense for you and don’t waver.
Consumer Education Services, Inc. (CESI) is a non-profit committed to empowering and inspiring consumers nationwide to make wise financial decisions and live debt free. Speak with a certified counselor for a free debt analysis today!