Co-Signer Rights And Responsibilities: How It Works

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“While every lender’s policies are different, consumers with limited credit histories often face challenges obtaining a loan, including lower loan amounts and higher interest rates,” says consumer finance expert Austin Kilgore, analyst with the Achieve Center for Consumer Insights. “Having a cosigner can help with these issues.”

A cosigner is someone who agrees to be responsible for the debt if the primary borrower fails to make payments, reducing the lender’s risk of loss. Having a cosigner may help you qualify for a loan or may help you obtain lower rates and better terms if you have a spotty credit history.

Cosigners typically want to help the primary borrower and have the financial resources to do so. Some common examples are parents who cosign private student loans for their children’s higher education, or an immediate family member who is willing to cosign for a private loan after an illness, divorce, or other hardship.

5 Tips for cosigners to protect themselves

On the most basic level, serving as a cosigner for someone else’s loan can negatively impact your credit. “Becoming a cosigner on another person’s loan is a major financial decision that shouldn’t be taken lightly,” says Leslie Tayne, founder and head attorney at Tayne Law Group.

Consider the following before you take on additional debt:

1. Know the type of loan you’re cosigning for

Secured loans put collateral on the line — a house, a car or another piece of property. This means less risk for the bank since the collateral will be seized if the primary borrower or the cosigner cannot make payments.

• Cosigning for a personal loan: Depending on the personal loan amount, you could be stuck with unmanageable loan debt. Borrowers also take out personal loans for a number of reasons. Have an honest conversation with the primary borrower to make sure you support the loan’s purpose and the risk of cosigning is worth it.
• Cosigning for an auto loan: Understand that cosigning for an auto loan does not mean you will be the beneficiary of the vehicle. Instead it will allow a friend or family member an opportunity to buy.
• Cosigning for a student loan: If you plan to cosign for a family member but do not want to remain on the loan in the long term, encourage your relative to consider lenders that offer a fast cosigner release. That way, you can be removed once the primary borrower meets certain requirements.

2. Understand your financial situation

Generally, lenders want to see cosigners with high credit scores, blemish-free credit reports and a long credit history of consistent, on-time payments. They’ll also want you to have steady employment and verifiable income.

Your credit will be affected even if payments are made in full and on time. The loan you cosign will be added to your credit history, which will impact your credit score.

3. Consider your relationship with the primary borrower

When you agree to be a cosigner, you agree that collections can hold you responsible for a defaulted loan amount. According to the Federal Trade Commission, a cosigner can face collections before the primary borrower.

The last thing you want is to ruin your relationship over financial tension, so you shouldn’t cosign a loan for just anyone. Think about your relationship with the primary borrower and consider how much you can trust the person. Both parties need to feel good about the agreement. You’ll want to be able to have open and honest conversations about money with the primary borrower.

4. Be clear on the long-term implications

If you’re cosigning a loan to help your child go to college or build up credit early on, then the risk may be worth it in the long run. For instance, cosigning for your child who decides to major in electrical engineering could get benefits in dividends with a median salary of about $118,780 and a 9 percent career growth potential from 2023-2033, according to the Bureau of Labor Statistics.

On the other hand, if you’re simply helping a friend pay off credit card debt or buy a car that’s outside of their price range, it’s probably not the best move for both parties. It can potentially damage both of your finances, and may not be an absolute necessity.

5. Consider an indemnification agreement

An indemnity agreement is a legal contract where the primary borrower agrees to reimburse the cosigner from any financial loss if payments fall through.

According to Tayne, an indemnity agreement needs to be drafted properly and signed, though this may not prevent the cosigner from having to go to court to enforce it. She also adds that it doesn’t protect the cosigner from the lender, who might decide to target the cosigner first instead of the borrower for a missed payment. “It only gives the cosigner recourse after the fact,” she says.

6 Things to consider as a cosigner

1. The borrower: Is this someone who is otherwise responsible and trustworthy? If not, you could be left on the hook for their debt — even without ownership rights to the attached asset. Would a missed or late payment damage your relationship? If so, is the risk worth taking?
2. The asset: If the loan you’re cosigning is secured by collateral, such as a vehicle loan, is it a reasonable risk? Cosigning on a luxury vehicle who is already struggling to make ends meet may not be a wise decision. On the flip side, cosigning student loans for your child to attend medical school may pay off in the long run, when they graduate and earn a strong income.
3. Loan terms: Because you’ll be financially responsible alongside the primary borrower, review the loan terms and conditions in advance. Ask questions about the lender if needed, and have an open discussion about a course of action if payments fall behind. If you decide to move forward, be sure to obtain a print or digital copy of all signed paperwork.
4. Your budget: Chances are, you’re being asked to cosign because you have resources the primary borrower does not. Make sure you’d be able to take on the monthly payments within your budget.
5. The risks: Your own ability to borrow may be affected by this additional debt on your credit report. What’s more, your credit history is on the line if payments are made late or missed.
6. Your responsibilities: As a cosigner, you agree that the lender may pursue you for payment without first pursuing the primary borrower. This is not the default course of action for every debt, but it could disrupt your finances and be an unwelcome surprise.

4 Things to consider as the borrower

1. The cosigner: Be sure you know the prospective cosigner well enough to ask for financial support. This loan could impact whoever you ask significantly, which could also put your relationship with the person at risk.
2. The process for release: If you have a cosigner on your loan, be sure you how to release the person from it. If your financial situation changes or if the relationship goes south, you’ll want to know how easy (or not) it will be to disentangle this person from your debt.
3. Your ability to make payments: While having a cosigner may give you peace of mind, you should not rely on the person to make payments. Timely payments are your responsibility, and you should make sure you can afford them without assistance.
4. Communication: Is your cosigner easy to communicate with? Would this person be available to talk to if circumstances change or if you need to reach out for some reason? Sharing a debt with someone is a commitment, so keeping the lines of communication open is important.

Bottom line

Agreeing to cosign a loan for a family member or friend can help them reach financial milestones that might not have been possible without your help, but when you cosign a loan, you take on financial responsibility.

It’s also important to keep in mind that not all lenders offer the ability to add cosigners. If this is of top priority, shop with that in mind when comparing personal loan rates.

Frequently asked questions

• What are the benefits of being a cosigner?
  

  The primary benefit of cosigning a loan is that you will be helping a trusted friend or family member who otherwise may be unable to qualify for a loan. As progress is made toward repaying the debt, the primary borrower will build a positive credit history.

  Benevolence is a simple driver for many cosigners who want to help someone who is just starting or rebuilding their finances, but because the loan will show up on your credit report, one perk is that on-time payments count positively toward your credit as well as the primary borrower’s.

• How can I remove myself as a cosigner?
  

  There are several ways to do this. First, and most simply, is to pay off the debt. Alternatively, the primary borrower may refinance the loan in their own name after they’ve built enough positive credit history to borrow independently.

  You can review the promissory note you signed when the loan originated. In some cases (often in writing), you may request release as a co-borrower. This may be after a certain number of timely payments, for instance, or a percentage of the debt is paid. The potential for this will depend on your lender and unique loan terms.

• Will removing myself as a cosigner hurt my credit?
  

  Removing yourself as a cosigner shouldn’t negatively impact your credit. Assuming you had a strong credit score and history to begin with, offloading this debt is unlikely to hurt your track record.

  That said, you may see a slight ding to your credit score in the short term, especially if the loan was a key component of your credit mix. But more likely, you may see a bump, as you’ll no longer be responsible for the debt.