What is a cosigner?
Lenders might be wary of approving a loan for applicants with a short credit history or some financial problems in your past. If you find yourself in this predicament, your lender might be more confident if you bring a cosigner on board.
A cosigner effectively acts as a backup source of repayment should the primary borrower fail to keep up with installments. This arrangement is especially helpful for young people without borrowing experience who might have trouble securing a line of credit on their own.
Not only does this arrangement help your financing application get approved, but the added security of a cosigner might lead to more favorable terms for your loan. If you can’t afford the proposed interest rates on a home loan, for example, a cosigner could demonstrate to your lender a reduced level of risk and result in more affordable monthly payments.
When would you need a cosigner?
One of the most common forms of cosigning doesn’t involve lending at all. Young people looking for their first apartment might run into trouble when landlords do a credit check. Without much of a credit history, the assumption could be made that these renters lack the experience to manage monthly rent payments.
In this scenario, parents can step in and act as the cosigner for the apartment. This works to assuage the landlord’s worries, even though the parent won’t be responsible for making the payments. That is, unless their kid can’t keep up with rent. In that case, the parent would need to provide the funds as the cosigner or risk harming their own credit score.
Loans that include a cosigner typically follow the same procedures as those without. Your lender will provide the terms of the loan, such as your interest rate and proposed amortization schedule. In order for a cosigned loan to go through, however, both you and your cosigner would need to sign the loan agreement. Once the contract is signed, financing can be disbursed. As the principal borrower, you would receive the full amount of the funding.
In a cosigning agreement, only the principal borrower would receive funds. Even though they’re on the hook for repayment if the principal borrower can’t follow through, the cosigner does not receive any funds from the loan. If you’re looking for more of a joint financing partnership where you’ll both have access to financing, a co-borrowing agreement might suit you better.
Cosigner vs co-borrower
In order for you and another party to both receive funds that come from a loan, you’ll have to sign a co-borrowing agreement. Much like a cosigner, both co-borrowers will have their credit reports pulled and financial history thoroughly scrutinized before a loan can be approved.
If you have a history of credit trouble or lack the experience to secure a loan, co-borrowing has similar benefits to cosigning. If your partner has a strong credit background, your application is more likely to be approved than if you applied on your own.
Unlike a cosigner, however, where only the primary borrower has access to funding, a co-borrower would receive the principal of the loan as well. Since the co-borrower is also receiving funds, they’ll be responsible for making payments as well. While a cosigned agreement would require only the primary borrower to make regular payments, co-borrowers are on the hook for repayment from the outset.
Co-borrowing agreements are most common in the mortgage process. Couples looking to buy a home strengthen their chances for approval by applying for a joint-financing agreement and demonstrating a strong likelihood of full amortization.
What is a cosigner responsible for?
If you’ve been asked to join a financing agreement as a cosigner, you’re probably wondering what exactly you’ll be responsible for. In a perfect cosigning scenario, you won’t have to worry about a thing. By signing with a responsible primary borrower, you’ll simply be offering a helping hand to get their credit history off on the right foot. Your credit history strengthens the loan application
In a less ideal scenario, however, not only will you be responsible for making payments, but your credit will likely take a hit as well. If the primary borrower were to stop making payments, the lending organization will start treating you like a lapsed borrower. Since you’re now responsible for making that debt, you can expect to be continuously contacted by the lender until the overdue balance is paid.
If you refuse to step in and pay as the cosigner, you could potentially be sued by the lender, allowing them to take a portion of your wages if they were to win the case.
One of the biggest risks of joining a lending agreement as the cosigner is that it could negatively impact your credit score. Before the lending organization even notifies you about the delinquent payments, it’s possible that information has already been included on your credit report. Even though you never personally received funds, your ability to apply for a mortgage or open a new line of credit could be severely limited.
Tips for cosigners
Here are few tips to keep in mind if you’re ever asked to cosign on a loan:
- Understand the risks: If you’re considering cosigning on a loan application, it’s vital that you understand the potential consequences for you if the primary borrower can’t keep up with their bills. Not only will you be obligated to make those payments, but your credit score will likely take a hit as well.
- Communicate: As the cosigner on a loan that goes awry, you’ll likely be contacted by the lending agency asking for repayment. While this is bad news, it’s even worse if it catches you by surprise. Since your signature is on the lending agreement, you do have the right to request that the creditor notify you if the primary borrower falls behind on their payments. The Federal Trade Commission, or FTC, recommends all cosigners to take this step and get the agreement in writing.
- Cosigning & collateral: Some cosigners will put up a personal asset as collateral to give the loan a better shot at approval. If regular payments aren’t made, the bank can sell that asset to make up some of the debt. Be sure that the assets you do put up are things you can do without. A car that you use for work, for example, should never be used as collateral when cosigning a loan.
Cosigning is a great way to help out a financially mature individual who’s having trouble getting a loan or apartment due to a lack of credit history. While cosigning can help ease a lender’s worries about an application, it does carry a significant risk for the cosigner. When considering being a cosigner it makes sense to review loan documents with your attorney."
Be sure to stay in constant communication with both the primary borrower and lending organization to keep your credit protected. That way, you’ll be helping someone out while maintaining your ability to make new investments or consider buying a home.