Does having a cosigner help your credit

When a friend or relative asks you to cosign a loan, your first instinct may be to agree and help them out of a tight financial spot. That’s understandable: When done responsibly, cosigning can be an invaluable tool for helping a loved one with poor or limited credit history gain access to the housing or credit they need. However, before you pick up that pen and sign on the dotted line, be sure you know how attaching your name to someone else’s debt may potentially impact your own finances.

What does it mean to cosign a loan?

Cosigning for someone means you’re taking responsibility for the loan, lease or similar contract if the original borrower is unable to pay as agreed. Whatever you cosign will show up on your credit report as if the loan is yours, which, depending on your credit history, may impact your credit scores.

Cosigning a loan doesn’t necessarily mean your finances or relationship with the borrower will be negatively affected, but it’s not a decision you should make lightly. Before you agree to help out, sit down with the borrower to discuss the situation and the borrower’s plan to keep up with their financial obligations. Make sure you both understand what is required of you as the cosigner, and together weigh the pros and cons of this action on your relationship. Take special care to discuss what will happen should the borrower be unable to keep up with their payments as agreed and ensure they understand how you may be affected as well.

The benefits of cosigning a loan

Clearly, cosigning a loan is most beneficial for the individual for whom you agree to cosign. It can be a great way, for example, to help your child build credit. When a young adult is just starting out, it can be hard to get a loan or credit card with a decent interest rate because they lack the credit history that lenders use to determine if a prospective borrower is reliable. Cosigning for your child allows them to start building the credit history they need while reassuring the lender that they’ll get repaid.

Possible disadvantages of cosigning a loan

By cosigning for another individual—child or otherwise—you are putting yourself on the line for that person’s loan. If the borrower is responsible in their repayment habits, there should be no negative impact on you, but if you find that is not the case, you could be seriously affected:

1. It could limit your borrowing power. Potential creditors decide whether or not to lend you money by looking at your existing debt-to-income ratio. Depending on how much debt you already have, the addition of the cosigned loan on your credit reports may make it look like you have more debt than you can handle. As a result, lenders may shy away from you as a borrower.
2. It could lower your credit scores. Because that debt shows up on your credit reports as if it were your own, your credit scores will be affected by any late or missed payments. If the borrower stops paying altogether and the loan goes into collection, that could also go on your credit reports, and the bill collectors could come after you to get their money. Lenders or collectors could even sue you, garnish your wages or put a lien on your property in an effort to collect the balance of the debt.
3. It could damage your relationship with the borrower. You should also consider how cosigning a loan might impact your relationship with the borrower. You’ll be tied to this person, and any possible financial upheavals, for the term of the loan, whether that’s six months or 10 years. You’ll be responsible for repayment if the borrower has financial difficulties or if something else goes wrong, and your relationship could suffer.

As with many aspects of personal finance, there’s nothing wrong with helping out a friend or family member in need. Just make sure that you’re ready for any impact on your own financial situation before you lend a hand to a loved one.

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Co-signing a loan can saddle you with some surprising — and unpleasant — consequences.

When a friend or family member asks you to co-sign a loan, it doesn’t seem like a big deal. You’re just helping out a loved one, right?

But co-signing a loan comes with serious, often hidden risks to your finances and your relationships. Here are some things to consider before you agree to lend a hand.

• How does co-signing a loan work?
• What are the financial consequences of co-signing a loan?
• What else could go wrong?

How does co-signing a loan work?

Your best friend, Bob, is in the market for a loan — a personal loan, car loan, student loan or even a mortgage. Unfortunately, Bob’s having trouble qualifying for a good interest rate or maybe even getting approved. He doesn’t have great credit scores or meet other application criteria, so lenders view Bob as a risky prospect. But, wanting to get approved nonetheless, Bob asks you to co-sign a loan for him.

If you’ve got good credit, adding your name as co-signer alongside Bob’s suddenly makes his application much more attractive to lenders. Now, Bob qualifies for a great loan and happily skips off into the sunset with the money.

But what does co-signing a loan actually mean for you?

When you act as a co-signer, you help another person qualify for a loan that they wouldn’t otherwise be able to get. Obviously, that’s a huge benefit to the other party.

But it also means you have to put your own finances on the line. As a co-signer, you’re not just someone with good credit offering a character reference to a friend with bad credit (or no credit). You’re actually committing to be 100% responsible for that debt if your buddy doesn’t pay.

What are the financial consequences of co-signing a loan?

If you think your role is over after signing on the dotted line, think again. Not only did you just do your friend a favor — you signed up for a brand-new loan with your name on it.

In the spirit of friendship, you’ve taken on a significant financial risk and responsibility while your pal gets to enjoy the benefit — a new car, a paid-for education or maybe a wad of hundred-dollar bills. What do you get as a co-signer?

1. You’re responsible for paying the loan. Surprise! If your friend misses a payment, that’s not just bad on him. It’s your responsibility to cover it out of your pocket … or suffer the consequences.
2. The loan appears on your credit reports. You’ll see the new debt on your reports, along with any black marks associated with it — late payments, defaults and missed payments sent to collections.
3. It can impact your ability to get a loan for yourself. Taking on any kind of additional debt typically increases your debt-to-income ratio. This doesn’t directly affect your credit scores — however, debt-to-income ratio is a key factor for lenders in evaluating whether to give you credit, and, if so, for what terms.
4. Your credit could take a nosedive. If your friend stops paying on the loan and you don’t pick up the slack, the lender will start reporting the missed payments or loan default to the credit bureaus. And that kind of data on your credit reports can tank your once-beautiful scores.
5. You’re legally on the line. Since you’re just as legally responsible for the debt as your buddy, the lender may choose to sue you if the loan goes unpaid. Then a court could easily order you to pay 100% of the debt plus legal fees. And recouping any of that cash might mean you’re forced to turn around and sue your friend.
6. You’re stuck with the loan. In general, you can’t jump ship on a co-signed loan when things go south. Getting your name off a loan that you’ve committed to pay isn’t a matter of simply erasing your signature. You’re chained to that debt unless your friend qualifies for a refinance or assumes the loan without you as a co-signer, or closes the loan.

What else could go wrong?

Co-signing a loan is a financial minefield. But equally important — if not more important — is the damage that co-signing can do to a relationship.

Even under the best circumstances, when your friend makes every payment on time as promised, the nature of your relationship is fundamentally changed by co-signing. Instead of being equals, your buddy is now indebted to you … and no one likes that feeling. Plus you might feel like you have to keep an eye on your pal’s financial activities to make sure the debt gets paid.

Still worse is what happens when the person you’ve helped fails to make a payment. Suppose your good friend splurges beyond their means on a vacation while you’re forced to cover a monthly payment. It would be natural to feel mounting resentment. Even if he’s having financial troubles that aren’t his fault, you might hate the fact that his money problem has now become your money problem.

So what should you do?

In general, co-signing a loan is risky on both a financial and a personal level. But saying no to a loved one in need can feel downright mean. After all, you want to help your daughter qualify for a college loan or help your best friend get a car that will get him to and from work.

If you ultimately resolve not to co-sign, share your decision from a place of love and respect. Educate your loved one on the responsibilities you’d be taking on by co-signing a loan — many people don’t realize the extent of risk they’re asking you to assume with your own finances. And be prepared for the other person to express disappointment. If possible, approach the conversation with some alternatives to co-signing — a website with info on college grants or easy-approval loan options.

If you do decide to co-sign, there are some things you can do to try to protect your own finances, and your relationship, as much as possible. Here are a few.

• Get online account access so that you can view statements without nagging your friend.
• Have the lender notify you immediately if payments are overdue.
• Plan for the worst by setting aside money to cover any missed loan payments.
• Don’t co-sign for someone who you know is irresponsible with money or for a person you’ve only recently met.
• Communicate regularly with the other person about the status of the loan.

Finally, if you co-sign, consider thinking about the loan as a monetary gift. Then, getting repaid is a bonus — not a requirement. And you’ll spare your relationship the pressure of money woes.

About the author: Megan Nye is a personal finance writer with a decade of experience in the insurance industry. Her writing has been published by Business Insider, Citi, LendingTree and others. Megan has a bachelor’s in mathematics fro… Read more.

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