Getting a loan is not always easy. Some people have bruised credit that makes it difficult or impossible for them to get a lender's approval.
Other folks may be just starting out in life and not have the credit history necessary to land a loan.
Finding a co-signer may improve the odds of securing a loan. A co-signer is an individual who is legally obligated to repay the loan in full. A co-signer risks having to repay missed payments and, if the borrower defaults on the loan, the entire loan.
"Co-signing is an opportunity to help a person receive the money he or she needs," says Gail Cunningham, spokeswoman for the National Foundation of Credit Counseling.
However, the act of co-signing is filled with potential risks.
100 Percent Liable for Debts
Co-signers are 100 percent liable for the loan if the borrower fails to make payments.
"Many people mistakenly believe that they are only responsible for half of the loan amount," Cunningham says. "But each party is making a promise to repay 100 percent of the loan."
In addition, the co-signer may be responsible for any late fees or collection costs associated with the account.
Creditors may be able to go after co-signers for payment first. In such a case, the creditor would not have to exhaust all options of seeking payment from the borrower before coming after the co-signer.
Co-signers may be subject to the same methods of collection that can be used against a borrower. That means that, if you co-sign a loan, a creditor may sue you, or try to have your wages garnished.
Co-signers also put their credit at risk. Repayment activity is reported on each person's credit file - both the borrower and the co-signer's.
"Any skipped or late payments will damage the co-signer's credit," Cunningham says.
Having the co-signed loan on your record may prevent you from getting access to other forms of credit in your own financial life. A lowered credit score due to skipped or late payments may prevent you from qualifying for other types of debt including credit cards, personal loans, and auto loans.
Ways to Protect Yourself
If you are determined to co-sign a loan, there are steps you can take to protect yourself.
Cunningham says you should not even consider co-signing unless you are willing and able to repay the entire loan if necessary.
Also, never co-sign for anyone you do not know well. Before co-signing, it is important to be familiar with the borrower's credit history.
"Find out why they can't get a loan independently," Cunningham says.
In many cases, the inability to get a loan may be due to circumstances beyond the prospective borrower's control.
"But if the bank won't loan them money, ask yourself if you should," Cunningham says.
If you co-sign, review the account each month to confirm that payments are being made as promised.
Other tips for protecting yourself include:
- Know your state's laws regarding the rights and obligations of co-signers.
- Request copies of all important papers, including the loan contract.
- Ask the creditor to notify you whenever the borrower misses a payment.