Should you co-sign a loan or credit card for a friend or relative?
I get this question a lot, especially since the economic downturn has made it harder for people to obtain loans.
There are certainly situations where you might be inclined to go ahead and co-sign, but it’s important to know what you’re getting into. Among the things to consider:
1. It's your debt now. Does the person in question tend to make wise financial decisions? As a co-signer of a credit card—or any bank loan—you are responsible for any money owed. If a friend or relative decides to charge a $3,000 trip to Mexico, you don’t get the right to veto the expenditure—you just get the bill if the card holder can’t ultimately make the payments.
2. Your credit is on the line. If the co-signee makes late payments or defaults, guess who the lender will come after? In most states, if your friend or relative misses a payment on a loan, the lender can opt to go straight to the cosigner to collect, according to the FTC. It’s not surprising, then, that studies of certain types of loans suggest that three out of four of the co-signed loans that go into default end up being paid by the co-signer. Not only could you end up paying for the borrower’s debts, your credit would take a hit.
3. Your score could be affected simply by co-signing. In rare cases, when you 100% trust the person, you may want to co-sign. But just remember that their debt will show up on your credit report, and could make you look overextended to creditors, who heavily weigh the percentage of your available credit when calculating your score.
4. Have they explored all other options? In the case of college-age students who are having a hard time getting a credit card, for instance, one solution is to get a job—even a part-time one. According to the CARD Act, if 18- to 21-year-olds have a regular income source, they don't need anyone else to guarantee the account. '
Going ahead with it? Check out the FTC’s facts for consumers page on co-signing a loan. It contains a host of sage advice for protecting yourself—from asking the lender to notify you if the borrower misses a payment to negotiating with the lender to limit your liability to the loan’s principal and exclude late charges, court costs, or attorneys' fees.
Erica Sandberg is a credit expert and columnist for Creditcards.com. She is also the author of "Expecting Money: The Essential Financial Plan for New and Growing Families."