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Asking someone to cosign your loan is a big responsibility.
Though it could improve your chances of getting a personal loan with a better interest rate, it can also negatively impact your cosigner’s credit score if you ever fall behind on payments. Here’s everything you should know about what a cosigner is and the process of getting one should you need it.
What Is a Cosigner?
A cosigner is a person who applies for a loan with the primary borrower and agrees to be legally responsible for the debt should it fall past due. People generally get a cosigner for a loan when they aren’t able to qualify for one alone. Adding someone else who has a stronger financial history and credit can boost the primary borrower’s chances of getting approved — and maybe even get them a lower interest rate.
Cosigner vs. Co-borrower: What’s the Difference?
A cosigner is different from a co-borrower. With a co-borrower (sometimes called a co-applicant), two or more people are equally responsible for making payments — and benefit equally from taking out the loan.
With a cosigner, the primary borrower is the one who benefits from the loans and makes the payments. But if they’re unable to, that’s when the lender looks at the cosigner for payment. “If someone has below average credit score, or if they’re starting off and don’t have a strong credit history, or their income is unsteady, and they absolutely need to get a personal loan, that’s when they can consider getting a cosigner,” says Trina Patel, financial advice manager at Albert, an automated money management and investing app.
Sometimes you may be asked to add a cosigner to the application for the personal loan to be approved. “If I’m 18 and want to buy a car but I don’t have credit, the car lender may ask for my parents to become cosigners,” says Tara Alderete, director of enterprise learning at Money Management International, a nonprofit financial counseling and education agency.
If you apply for a personal loan with a cosigner, the cosigner’s name would appear on the loan alongside the primary borrower. “If payments aren’t made on time and [the borrower] does fall behind, it affects the cosigner’s credit score as well, and they’re on the hook for that loan,” Patel says.
“You want to make sure if you do ask someone to be a cosigner, it’s a very close family member or friend where there’s a mutual trust,” says Patel. “If something happens and you can’t pay the loan back, you want to be sure that it doesn’t impact your relationship with that person.”
Keep in mind: from the cosigner’s perspective, there’s no upside beyond helping someone they care about. In fact, many finance experts strongly recommend against cosigning on another person’s loan. “You’re taking full and equal responsibility for that debt,” warns Tiffany “the Budgetnista” Aliche, a contributing editor at NextAdvisor. “That means if your sister does not pay that car note, they’re going to look for you.”
When Does a Cosigner Make Sense?
A cosigner may make sense if you fall into the scenarios below:
- You have poor credit. A credit score below 580 is considered “poor” by FICO, so lenders may consider you a high-risk borrower unless you can offer a cosigner.
- You’re self-employed. Lenders are more likely to see you as a stable investment if you have full-time employment and a steady income. Self-employment is considered riskier.
- You’re young and don’t have an established credit history. Having little to no credit established means the lender doesn’t have much to go off when evaluating your application, so having a parent cosign could be beneficial.
- You have a high debt-to-income ratio. If you have a lot of debt, then a lender may wonder whether you should be taking on more with an additional personal loan. A cosigner can boost your chances.
- You’re able to make payments on your own. Ideally, the cosigner would be involved to help you in the application and approval process, but then would never have to step in again. It’s best if the primary borrower can be self-sufficient and manage the loan themselves and only needs help in getting approved.
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Benefits of Getting a Cosigner
A cosigner can make you a better applicant for a personal loan for the following reasons:
Better Chance of Approval
A cosigner with strong credit increases your chance at getting approved for a personal loan; You’re essentially using their financial profile to complement your own. In most cases, people add cosigners to their loans when they otherwise wouldn’t be eligible for a loan on their own.
Potentially Lower Interest Rate
Having a cosigner is also a good bargaining tool and can potentially merit you a lower interest rate, in addition to better approval odds. Ultimately, a better interest rate will save you money in the long run as your monthly payments will be lower. A few percentage points can make all the difference, especially if you have a lot of debt.
Drawbacks of Getting a Cosigner
Finding Someone You Trust
Backing another person’s loan and being on the hook if anything goes wrong requires a lot of trust, so you’ll need to find someone who is comfortable with that risk and in better financial health than you. This will most likely be a family member or close friend.
“[Having a cosigner] basically guarantees the loan,” says Alderete. “It’s important to make sure you’re looking for someone who has a good credit and repayment history.”
Defaulting Can Lead to Long-Term Consequences
When applying for a personal loan with a cosigner, it’s understood that the primary applicant is ultimately going to make payments on the loan. But if you start missing payments, then your lender could come for the cosigner and ask for payment directly. “If it goes into default or past due, [the cosigner] is legally obligated to make payments on that loan,” Alderete says.
These missed payments would also appear on your cosigner’s credit history, ding their credit score, and affect their own chances of getting credit in the future. If missed payments continue long enough (the number of months differs based on the lender), then your loan would go into default and it could go into collections — meaning both the primary borrower and the cosigner would receive calls from debt collectors asking for payment.
This is not even to mention the possible relationship damage that comes with defaulting. If a loan has reached the point of default, then it’s possible that communication between the primary borrower and cosigner hasn’t been open. When entering into a borrower-cosigner relationship, it’s important that the borrower is communicative of any potential missed payments and understanding of the financial strain that the cosigner could be experiencing as a result.