Cosigning a Loan: Just Say No to Children, Family, Friends and Everyone

The bonds of family and friends are strong. It is normal to have a desire to assist grown children, extended family members and even close friends during tough economic times. On occasion, you may consider assisting them by cosigning a loan that will allow them to purchase an automobile, obtain a credit card or engage in other financial transactions. However, doing so is often a poor choice and can have a severe impact on your own credit score, assets and more.

Before you sign your name on the dotted line, you must seriously consider several things. It is important for you to realize that a bank or financial institution turned down your relative or friend because of a bad credit history or a lack of credit history. The lender felt that the borrower is a high risk and will likely default on any extended credit. If a lending institution deems the borrower a high risk, you must seriously evaluate your friend or relatives ability to meet their financial obligations in a timely fashion.

When you cosign a loan, it is imperative that you understand the financial commitment you are making. You are agreeing to be financially responsible for repaying the loan should the primary-borrower default on their payment obligation.

Prior to cosigning a loan, make certain you can afford to pay the debt. When you cosign a loan, you are taking on additional debt. You may feel comfortable that the borrower can meet their obligations; however, sometimes life delivers the unexpected. People lose their jobs, become ill, die or are simply irresponsible and living beyond their means. If the borrower defaults on the loan, you are responsible and must pay the outstanding debt.

All cosigned loans show on the cosigner's credit report. Your credit report will contain information about timely and late payments. If the borrower makes the payments on time, your credit score may improve because of the positive payment history. Alternately, the cosigned loan may affect the cosigner's debt-to-income (DTI) ratio and prevent them from obtaining credit for auto loans, mortgages and more.

As a cosigner, you must realize that any late payments made by the borrower could decrease your credit score. In some instances, the lender does not inform the cosigner about the borrower's late or defaulted status. By the time you are aware of the situation, it is often too late to save your credit rating.

Should your friend or relative default on the cosigned loan, the creditor could refer the account to a collections agency. The agency will come after you to pay the outstanding balance of the loan. You may have to pay late fees, have your wages garnished and lose any property assets used as collateral for the loan.

Even after the debt is paid, the collections actions will appear on your credit report and significantly lower your credit score. Your excellent credit has suddenly turned into bad credit because you simply wanted to help a family member or close friend.

Studies performed by the Federal Trade Commission demonstrate that three out of four cosigned loans go into a default status. This grim statistic clearly shows that you are taking an immense risk when you cosign with a friend or relative on a loan.

While saying no to any cosign requests could damage your relationship with the individual, the damage done to your own financial status and personal security could be devastating. Instead of cosigning a loan, you could offer to extend a personal loan to the individual at a low interest rate. Doing so can allow you to assist your friend or relative and preserve your good credit rating in the event they default on your agreement. It is also ok to say no to any financial requests.

Because you care, you may want to advise your friend or relative to review their credit report. Tell them to make certain that the report does not contain any inaccurate, misleading or outdated information that is erroneously lowering their credit score and preventing them from obtaining a loan.

Lexington Law can assist your loved ones in repairing their bad credit. Since 1991, we have served over 1/2 million clients and have successfully assisted them in improving their credit scores. In addition, we offer a free credit consultation.