Lending conditions are tight for individuals with a poor or limited credit history and many may turn to family members or close friends when they need help obtaining a loan or credit card. Co-signing a credit agreement for a relative or friend is a big undertaking that can carry significant consequences for all parties involved. So before agreeing to co-sign a loan or credit card agreement, adults should understand what they’re getting into and how their own financial circumstances may be impacted.
The first question adults should ask themselves is why their relative requires a co-signer, as the answer may impact their decision. For example, is the primary borrower in need of a co-signer because they have a weak credit history due to poor debt management in the past? Or is the borrower a young adult who does not have enough credit built up in his or her name to qualify? Co-signers will be on the hook for paying the balance if the borrower defaults on the loan or credit card, so they may have reservations if their relative has frequently mismanaged accounts in the past.
Second, it’s important that individuals understand their responsibilities as a co-signer. Because adults will be equally responsible for making sure bills are paid on time, their credit scores will be impacted by missed payments or defaults. According to the Federal Trade Commission, lenders may require the co-signer to pay late fees and other collection expenses.
Co-signing a loan may also impact an individual’s ability to gain access to credit. When adults agree to guarantee a line of credit, the account appears on their credit scores as if the debt were their own. If co-signers apply for a new credit card, refinance their home or purchase a new car, lenders who see the co-signed debt may feel they already have too much credit in their name to handle a new account. This could lead to higher interest rates, fees or rejection for a loan.
Lastly, adults should make sure they would be able to handle the balance if the primary borrower falls behind. Failing to cover a loan or credit card debt can result not only in credit score damage, but also legal action by a lender. For this reason, it’s crucial that individuals don’t agree to take on co-signing responsibilities that they themselves are not equipped to handle.