Let’s look at your responsibilities when co-signing.
Your friend asks you to co-sign a loan for them so they can buy a new car. Your first instinct is to be a good friend and help them out, they just need a signature. But what if your friend doesn’t make their payments on time?
Let’s look at your responsibilities when co-signing for a loan:
Co-signing for a loan gives you the same responsibilities as the primary borrower (aka, the person you co-signed for). If you cannot make those payments, regardless if you were not the one who needed the loan or received the money, the loan agency will act against you, the co-signer.
Why the co-signer? If the borrower can no longer make payments, this shows the lender that their financial situation is poor. The lender’s best bet on recovering their money, is you the co-signer.
For example, you co-sign a $10,000 loan for your friend to buy a car. Your friend pays the minimum payment of $250 a month for the first 3 months but realises that with gas money, rent, and other expenses, they can’t afford their minimum loan repayment. They start missing payments. Your friend tells you everything is good for months and you’re none the wiser. They’re your friend, you trust them.
Then you get a call a few months later from the loan agency demanding 3 months payment or they will begin taking legal action.
While this is an extreme example, this can happen. To protect yourself when co-signing a loan, it’s wise to ask to be kept in the loop with when payments are being made. This way you know you won’t be blindsided later.
Co-signing affects your credit score. Despite not having received any money from this loan, you and your financial situation are tied to making sure it is repaid on-time. The same way if you took out a personal loan and didn’t pay it, your credit score would drop, a co-signed loan works the same way.
You may be declined on taking out a loan for yourself. If your financial provider or loan agency sees you are already responsible for a loan via co-signing, they may decline you a personal loan because you are liable to owe money on the co-signed loan. Likewise, if your credit score is negatively impacted by the co-signed loan, this could impact your ability to take out a mortgage, car loans, or any money lending service.
Although the “rewards” for co-signing a loan are virtually non-existent and the risks can be devastating, when should you co-sign for a loan?
- You trust the person you’re co-signing for. Co-signing is a huge responsibility and risk to place on another person. If you are confident that the person you are co-signing for has funds to make repayments and will make them on time, you should consider co-signing for them.
- You have the funds to cover the loan if the primary borrower cannot pay. If you have the funds to repay the loan, there is less of a risk as you will not feel stuck or burdened if the loan falls to you.
Things to be mindful of:
- You cannot back out of co-signing a loan. It is a contract which ends when the loan is repaid.
- You should not feel guilty refusing to co-sign a loan. If you are not prepared to take the risk, you need to protect yourself. You might receive backlash for this decision but at the end of the day, you’re putting your finances on the line for someone. It is understandable that many people are not in a good situation to commit to this. Friends should understand when you are unable to help!