Cosigning a loan for a family member or friend can put a person’s credit score and overall financial position in jeopardy. Before cosigning a loan, it’s important to know the benefits and risks. Continue reading to learn what cosigning is and the ways it can affect the borrower and the cosigner.
What Is Cosigning?
Cosigning is signing jointly with a borrower for a loan to increase the borrower’s chances of getting approved for a loan. Cosigning a loan results in joint credit for the borrower and cosigner. The creditworthiness of both signers is considered during the application and approval process. The primary borrower is responsible for repaying the loan. If the primary borrower is unable to pay back the loan, then the cosigner becomes liable for the debt.
A cosigner can guarantee that a debt will be paid off for someone who is unable to get a loan on their own. A borrower may not qualify for a loan for different reasons. Here are some common reasons that people may not qualify for loans independently.
What Is a Cosigner?
A cosigner is a backup person legally responsible for making payments on a loan. When a person agrees to cosign a loan, they help reduce the lender’s risk and help the primary borrower obtain credit. Essentially, a cosigner agrees to take on another person’s debt. If that person fails to make payments or defaults on the loan, the cosigner becomes responsible.
What Are a Cosigner’s Rights and Obligations?
Typically, borrowers apply for preapproval for a loan. If they have a hard time getting approved or don’t get the best interest rates because of a low credit score or other disqualifying factors, a cosigner can come to the rescue.
The lender considers the cosigner’s creditworthiness, and if approved, the cosigner completes loan documents that explain the terms of the loan. The lender also provides the cosigner with a document called the Notice to Cosigner which states the consequences if the borrower does not pay on time or defaults on the loan.
A cosigner agrees to guarantee a borrower’s debt but has no ownership, title or other rights to the property paid for by the loan. The cosigner is on the hook for repaying the debt if the primary borrower fails to pay.
Benefits of Cosigning a Loan
Cosigning mainly benefits the primary borrower who otherwise might not qualify for a loan on their own. Here are some of the benefits that cosigning provides to a borrower.
- Can get approved for more favorable loan terms
- Can qualify for a higher principal loan amount
- Can help build or rebuild credit
- May get a lower interest rate
Borrowers with a minimal credit history or low income can benefit from having a cosigner on their loan.
Risks of Cosigning a Loan
When a person cosigns a loan for a borrower, they guarantee that they will pay back the loan if the borrower is not able to pay. The borrower benefits from the cosigner’s creditworthiness, but the cosigner assumes the risk. Here are some of the risks associated with cosigning a loan:
- Liable for debt repayment for the life of the loan
- Can negatively affect credit score if the borrower pays late or defaults on the loan
- Extremely difficult to get released from the loan
- Can be sued by the lender for late fees, interest and attorney’s fees
Cosigners agree to take responsibility for repaying another’s loan. The risks can be great if the cosigner ever experiences their own financial difficulty.
Good To Know
Cosigning is not the only method of obtaining a loan with someone else’s help. Co-borrowing is a similar concept. The difference is that both persons receive the loan and are equally responsible for making the payments. A common example of co-borrowing is a married couple applying for a mortgage loan together, with each applicant sharing payments and access to the property attached to the loan.
How Does Cosigning Work?
Cosigning is considered a type of joint credit between the primary borrower and the cosigner. The borrower receives the principal of the loan, and the cosigner does not have to make the regular monthly payments on the loan.
The types of loans that lenders offer with cosigning options include mortgage loans, auto loans, student loans and personal loans. Some credit card companies also offer consumers cosigning options to help build their credit.