Sooner or later, you may be approached by a friend or relative who needs some financial help.
Instead of borrowing money directly, they may ask you to cosign on a small loan to pay for a car, college tuition, or other bills.
Cosigning is a way for someone with bad credit to borrow on the strength of another person’s strong credit.
By cosigning, you are speaking up for the credit worthiness of your friend or relative, and are basically promising that they will make the payments.
While this may sound like a great way to help someone out of a jam, this sort of financial agreement is also very risky business for the cosigner whose excellent credit is now at stake.
What does cosigning mean exactly?
When you cosign a loan for another person, you are guaranteeing the debt. In plain English, you’ve become a co-borrower on the loan.
This co-borrowing means that you’ve reduced your own ability to borrow money in the future, since future creditors may count this debt as a liability.
Aside from possibly lowering your own chances for a loan, cosigning also means that you’ve have set yourself up for a financial obligation with some serious consequences if the friend defaults.
As guarantor, you agree to take over the entire loan if your friend can’t (or won’t) make the payments. You also agree to pay any late fees or collection costs that your friend many have incurred. So what if you refuse?
The missed payments will go on your credit report and worst yet, the collection agency may decide to garnish your wages or seize some of your assets to satisfy the debt, leaving you with the job of trying to collect from your dead-beat friend.
While you may think this will never happen to you, studies indicate that three out of four co-signed loans go into default.
That translates to a 75% chance that your friend or relative will skip out on making the payments, which are higher odds than most of us are willing to take.
It’s important to remember that banks don’t ask for a cosigner unless the borrower is a bad credit risk.
If the bank won’t take the chance on loaning someone money, then there really isn’t any reason why you should either.
Not only are you setting yourself up to pay a debt without the benefit of enjoying the cash, you may be compromising your own stellar credit.