What does “co-signing” a loan mean and what are your responsibilities?
There’s more to co-signing a loan than just lending your signature. Before you help a family member or loved one, make sure you understand the impact that co-signing a loan can have on your finances and credit score.
What does co-signing a loan mean and what are my responsibilities? So, someone’s asked you to co-sign on a loan. So what does that mean? Well, when you co-sign on a loan or credit card application, you formally take on legal responsibility for the account, which means any debt and payments will appear on your credit report. More importantly, if that person misses a payment, or worse yet, defaults on the loan, the negative impact will be felt on your credit report, and the creditor may even require you to pay the balance.
So, why would anyone co-sign a loan? Well, co-signing can help the original borrower get approved or sometimes get a better rate on the loan, due to your good credit history. For example, your good old son or daughter may get a much better rate on the loan for their first car, since they’ve, you know, they’re just establishing credit, and you’ve had a much longer history of managing debt well. Keep in mind – once you sign, you’re in a partnership. It’s your loan as much as your co-signer’s.
Now, it’s extremely difficult to remove a co-signer from a loan, so make sure you know and trust the person before agreeing. If a hardship happens, like an illness or a job loss, make sure you’re in a financial situation where you’re able to take on and can pay the extra debt if the other person can’t. If you co-sign a loan, as far as lenders are concerned, it’s your debt. And if you’re unable to make the payments on the loan, your credit may be harmed. You should also be aware that co-signing a loan may impact your ability to obtain new credit down the road, such as a car loan. Since you are legally responsible for the co-signed loan, it impacts your debt-to-income ratio. And if your debt-to-income ratio is too high, lenders may be less willing to extend more credit. If you do ever co-sign for a loan, treat it as you would your own.
Make sure you know payments are being made and what the balances are. This not only helps you avoid unpleasant surprises down the road, it gives you the opportunity to offer some guidance, so the person you co-sign for gets started down the right path to building or rebuilding their own strong credit history.