If you’ve ever been in the awkward position of being asked to co-sign for a loan or apartment for a loved one, you are familiar with the conflicted feelings that can present themselves in these scenarios. Perhaps the loved one is in an extreme situation and they’re counting on you and your stellar credit to help them to wiggle out of a bind. On one hand, you don’t want to feel as if you’re turning your back on a person that you care about. However, at the same time, you don’t want to put your name on the line and end up holding the bag in the event that your loved one defaults on their payments.
When you co-sign a loan, you essentially promise the lender that you will make the payments yourself in the event that the primary borrower does not. According to a Bankrate survey, 21 percent of all adults in the United States have co-signed for a loved one in the past, and nearly half of them suffered a negative consequence as a result. Some of the negative consequences included damaged relationships, loss of funds, and a damaged credit score.
Obviously, co-signing for anyone is risky business, but what do the money experts have to say about it?
Don’t do it
“My general advice is not to co-sign. It’s risky to mix business with pleasure,” Ted Rossman, Senior Industry Analyst, Bankrate.com told MadameNoire. “While losing money and hurting your credit score is not fun, I’d argue that damaging a relationship is even worse. Chances are, you’d only co-sign for a close friend or relative, so it’s very unfortunate if that closeness is damaged. It’s an uncomfortable situation to envision sitting near your debtor or creditor at Thanksgiving dinner. And it opens you up to a lot of second-guessing. Let’s say your brother owes you money but won’t stop talking about his amazing Caribbean vacation. Hmm, you might say, ‘Maybe he could have used that money to pay me back instead!'”
But if you must…
“If you really want to co-sign for someone, don’t commit to more than you can afford to lose,” Rossman went on. “It’s often best to frame this sort of thing as a gift. Be prepared to lose that money without hard feelings. Also, note that co-signing can impact your credit score even if the payments go as planned because that can show as debt on your credit report, which could affect your credit score, your debt-to-income ratio, and your ability to qualify for financial products in your own name.”
There’s one potential perk
Anna Serio, a loans writer at Finder.com is not completely against co-signing, but she advises borrowers to proceed with caution and to only sign for folks that they can absolutely vouch for.
“Co-signing a loan comes with more financial risk than benefit to the cosigner,” Serio explains. “Co-signing a loan means that it will show up on your credit report on your debt. If the borrower makes a payment on time, it could help build your credit history. But if they miss a payment, your credit score will suffer unless you make the payment yourself. That’s why it’s good to save co-signing for someone that has demonstrated financial responsibility in the past.”
Further, Serio cautioned against co-signing a loan around the time that you are looking to purchase a home, vehicle, or open a new line of credit.
“Save co-signing a loan for a time when you aren’t planning on applying for credit any time soon,” she went on. “Having that much debt in your name can make it difficult to qualify for a mortgage, car loan, or new credit card, for example. And even if you do qualify, you’ll likely qualify for higher rates and less competitive terms than you might have without the cosigned loan.”
You can, but ask yourself this question first
Senior Vice President & Chief Financial Analyst at Bankrate, Greg McBride, believes that potential co-signers should ask themselves whether they’d willingly loan their loved one the loan amount in cash when considering co-signing. Your response should help you to determine whether or not it’s a good idea to sign on the dotted line.
“You really, really need to know who you’re cosigning for. Is it a son, daughter, or grandchild that is gainfully employed, very responsible, honors their obligations but just lacks the established credit necessary to qualify on their own?” McBride questioned. “Or is it the cousin or new friend with sloppy financial habits that is just ‘between jobs right now’ or ‘waiting on a deal to come through and then everything will be fine?’”
Generally speaking, McBride advises against co-signing.
“I generally advise against cosigning because as a cosigner your best case scenario is just that nothing bad happens,” he went on. “But the downside risk is significant – damaged credit, being on the hook for the debt, and a relationship fractured beyond repair.”
When all is said and done, co-signing is a personal decision, but it’s important to be honest with yourself about the potential risk and the high likelihood that you will come to regret your decision.