If you are considering co-signing a loan for a friend or family member, or seeking help from others to get financing, there are some big concerns that should be handled first. A co-signer is taking on a big responsibility if they do it, so this decision shouldn’t be taken lightly.
I have bought sought help and been asked to help with financing in the past, so I have some advice to share on this topic that can help either party. This isn’t a decision that is only for the co-signer to make. If you want someone to co-sign for you, you really need to consider a few things before you proceed.
What is Co-Signing a Loan?
You’re trying to get financing to buy something. In many cases, this will be a major purchase, such as a car or even a house. When you have no credit or bad credit, you will most likely get denied for your loan when you try to get approval on your own. You could also get denied if you don’t have enough income to justify the purchase. The only immediate solution that could possibly turn your denial into an approval is to get someone to co-sign the loan for you.
Someone co-signing a loan is giving their personal guarantee that it will get paid, as agreed. This means that if the payments aren’t made, it will harm the credit of both people and the co-signer can be held legally responsible for repaying the debt.
While I’ve known of a few limited situations where a really good friend helped another friend to get financing for a car, most people usually will only ask a family member, like a parent, to co-sign for them. It’s really a major leap of faith and trust for the co-signer, so it is something that should be viewed with caution before making any kind of agreement to help.
Credit & Income Considerations
In almost all cases, someone will get denied for a loan because their credit score isn’t high enough and/or they don’t make enough money to be able to afford the purchase. It’s also possible that too much existing debt is the cause. Any debt payments you’re obligated to make will reduce the amount of your earnings that you could use to pay other bills, so debt can use your income to be viewed as too low.
Banks and other companies that offer financing ask for a co-signer when those situations exist for the borrower. The co-signer isn’t merely signing a contract though. Their credit score, debt and income will be examined as though they are the buyer. They must meet any of the loan qualifications in all of these areas to actually help as a co-signer.
What most people don’t consider is that the co-signer has their own bills and debts too. Unless they make a ton of extra money, they’re not likely to have enough income to qualify for the purchase either. This can especially be the case if you want help to buy a house. Most people can’t afford two hours payments, so banks won’t approve them as a co-signer when that’s the case.
For the Co-Signer
Ultimately, in a large majority of cases, there is probably a good reason why someone needs a co-signer. They’re either trying to buy something that is too expensive and/or they’ve been irresponsible with their credit in the past. In either case, getting approved for the loan may potentially be a bad decision for you and them.
Never help someone obtain credit blindly. Ask yourself how much you really trust them to pay the loan without fail? Think about what you know about their life and lifestyle habits. When someone is working hard at a job that is likely stable and you really trust that they just need a helping hand, it could change their life to help them out. However, someone that shows zero ambition in life and just wants a fancy new sports car even though they are unemployed is likely a poor choice to try to help.
Consider a worst-case scenario. Maybe your son wants to buy a car and just got a new job, so you really want to help them. What if they quit or get fired in a week, and don’t pursue another job immediately after that? You must be willing to take over 100% of the loan payments if it can’t be paid by the borrower. If this payment will cripple your finances, don’t help. A missed payment will harm your credit too. Likewise, if you a hit to your credit score will negatively affect you, you shouldn’t co-sign.
For the Co-Signee
You really need to take the time to think about what you are asking someone else to do. Any minor mess up on your part with the loan repayment can severely affect the person that helps you. A single missed payment will drastically drop a good credit score. A complete loan default can wreak major havoc on the financial life of both you and the co-signer.
When a potential loan is to buy something frivolous, it’s not really fair to ask someone to take a big risk to help out. Let’s say you’ve held down the same job for the last two years and have been repairing your credit without any missed payments. However, your credit score is still too low to get approved for financing. Then your car suddenly dies. If you don’t get another car, you’ll likely end up losing your job or spending a ton of money on other methods of transportation. That’s a more legitimate situation to consider asking Mom or Dad to be a co-signer.
Seriously consider how trustworthy and reliable you are and whether the person you want to ask would view you the same way. Having bad credit and getting denied for a loan sucks, but it can feel even worse to ask for help and get rejected again. Nobody is obligated to help you, so you need to convince them why they should co-sign for you.
Decision to Help Finance
Both people involved in a potential loan need to sit down together and put some things in writing. List the expectations that you and the other person has for this deal to work for everyone.
Most importantly, make sure you discuss what’s going to happen if the payments aren’t made. You may also want some accountability to ensure that no payments are missed, so you find out the loan will go sour before it actually happens. This would give the co-signer the opportunity to step in and correct the problem before it ruins their credit history.
If you help one of your kids buy a car, one condition could be repossession of the car if a payment is missed. Someone that doesn’t fear any kind of loss may not have the motivation to actually work hard to avoid that loss. You could even require them to do labor work around your house to pay their debt to you if they are unable to pay. Regardless of what the expectations may be, just make sure it’s clearly understood by both parties. Only proceed with co-signing for a loan if you feel 100% comfortable doing so.