Many people would do just about anything for their loved ones, but what about cosigning a loan?
Truth be told, adding yourself to a personal loan with cosigner responsibilities may or may not be a good idea. On the one hand, it can help someone establish their credit, which is a key factor in their financial independence. On the other, you could end up being taken advantage of, which would make for awkward Thanksgiving dinners.
Here’s what you should consider before you decide to cosign a loan.
3 things to consider before cosigning a loan
Cosigner loans are a great way for someone with new or bad credit to get a loan for which they might not otherwise qualify. But applying for a personal loan with cosigner status may cause problems with your credit and finances.
Take the following into consideration before cosigning a loan.
1. They may not need the loan
Folks use personal loans for several different reasons. They may want one to pay off some high-interest debt, even to build or rebuild their credit. However, they may also apply for a personal loan to fund something that isn’t a necessity, like a vacation or home renovations.
That’s why it’s important to make sure you understand the purpose of the loan and its terms before cosigning. If it’s for a “want” rather than a “need,” you may be unnecessarily putting yourself on the line. But if it’s to help someone get back on track financially or credit-wise, your assistance may be more meaningful.
2. Your credit is on the line
If you cosign a loan, you’re not just vouching for the primary borrower, you’re adding your name to the loan as an equal borrower. Here’s how doing this can affect your credit:
- It causes a hard pull on your credit. Every time you apply for credit, the lender does a hard pull on your credit report. Each inquiry can ding your credit score a few points and stays on your credit report for 24 months.
- It increases your debt load. Even if you’re not the one making payments, the debt is yours, and it will show up on your credit report as such. If you apply for another loan while the cosigned loan is still outstanding, the debt-to-income ratio the lender uses for you will include the debt.
- If the primary borrower defaults, so do you. Your credit benefits from on-time payments on the cosigned loan. But if your loved one is delinquent or defaults on the loan, it could have a serious negative impact on your credit.
To avoid cosigning a loan that could damage your credit, ask yourself how the primary borrower manages their money. You can then determine if you feel comfortable putting your credit history in their hands.
If there’s any question at all, you can always recommend they choose another route to reach their goal. If it’s to consolidate down high-interest debt, you can suggest they create an accelerated payoff plan.
3. You’re liable for the debt
If you cosign a loan, the primary borrower would pay off the debt without any late payments. Even if they’re normally responsible, though, the unexpected could make it difficult for them to stay on top of it.
In that case, you as the cosigner are as legally liable for the debt as the primary borrower. So, not only does it hurt your credit when payments are late, but the lender – and possibly later, debt collectors – can also come after you to get the debt paid up.
Overall, avoid cosigning unless you know the borrower can afford the loan. If you have any doubt, don’t be afraid to say no. Even if your loved one can afford the monthly payments, have the cash on hand to pay off the loan yourself.
How to say ‘no’ to a personal loan with cosigner duties
Cosigning a loan isn’t necessarily a good or bad thing. The important thing is that you thoroughly understand the situation before going into it.
If you feel comfortable cosigning a loan for someone you trust, more power to you. But if you feel uneasy about it, communication is key. Here are a couple of tips to help you with the awkward conversation.
Regardless of the reason for the loan, you know that it’s important to this person. Be supportive of what they’re trying to do and let them know that you’re willing to help them find a way to do it – just not in this way.
If you’ve chosen not to cosign the loan, they deserve to know why. Lay out your concerns about their financial stability and the risks you would be taking. Avoid beating around the bush, and don’t give in because you don’t want to hurt or offend them.
Even if your decision does hurt or offend your loved one, be honest anyway. Having that conversation will surely be uncomfortable. But being candid now will likely be far less detrimental to your relationship than if you were to cosign and end up personally on the hook for the loan.
Review personal loan with cosigner duties carefully
Adding yourself to a personal loan with cosigner responsibilities can be a good thing. Many people trying to build or rebuild credit have benefitted from the option. But if you’re not careful, cosigning can cause more problems for you than solutions for your loved one.
If you cosign a loan, make sure you know what you’re getting yourself into in its entirety. If you choose not to, however, be truthful about your reasons and show support as you help your loved one find a solution that doesn’t involve you.
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