Should you Co-sign That Loan?

By: Martin Lukac

Chances are that someday you will be asked to co-sign a loan. It could be a friend, a relative or a co-worker that needs help getting a loan. You are a nice person, so you are inclined to say yes. However, before you sign anything, you need to know all of the risks.

According to the Federal Trade Commission, as many as three out of four co-signers are required to repay the loan they co-signed. Why is this number so high?

Well, think about why someone would need a co-signer on a loan. They have been turned down for credit on their own for a reason. This is usually due to a lack of credit history, but it could be for bad credit as well. Think about how much of a risk this person is. What do you know about their spending and finances? Do they have a steady job?

In most cases, if the borrower misses a payment on a loan, the lender will come after you first. They may not even try to collect from the borrower. The idea is that the borrower didn't make the payment in the first place. The lender knows that they don't have the money or won't pay in the future.

In addition to the missed payments, you could be required to pay late fees and attorney fees. You could have your wages garnished, you could lose any property that you put up as collateral and you could be sued. It could be a bad situation. Oh -- and it will appear on your credit report, which in turn could ruin your credit.

Before you co-sign a loan, you must be absolutely sure that you can afford to pay the debt if the borrower defaults on the loan. You may believe that it won't happen, but life can turn sometimes. People lose their jobs, become ill, have accidents and even die. If any of this happens, you will be responsible for the loan. You want to be able to pay the loan without jeopardizing your finances and credit.

Co-signing on a loan will affect your credit score. The loan will show up as a liability that you are responsible for. This could prevent you from getting credit when you seek it. If you are planning on buying a house or car during the life of the co-signed loan, you should reconsider. You don't want the amount of debt you are responsible for to be any higher than necessary.

Sometimes it is a good idea to co-sign on a loan. It isn't all bad. For example, a parent may co-sign on a child's first vehicle in order to help them establish credit. Many parents co-sign on student loans.

If you decide to become a co-signer, try to have the lender agree in writing that if the borrower defaults, you will only be responsible for the principal balance of the loan. This means that you won't have to pay the legal fees if the lender sues you.

You should also ask to be notified in writing if the borrower is late with a payment. This could save you time in fixing the situation before it gets out of control. Most people don't even know that the borrower has stopped paying until they are sued.

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