Here’s the TRUTH about why your lender wants a cosigner.
Today’s post is a follow-up to our famous post about what your loan officer looks for when you apply for a loan. I will be using internal banking terminology that’s explained in that post, so I suggest you start (HERE) before proceeding.
So, you want a loan.
Your lender shouldn’t want to approve you for loans that you ultimately can’t afford. Doing this makes for bad business, detriment to you, and it’s plain illegal (google: predatory lending).
As we learned in THIS post, your financial institution is going to evaluate your loan application and come to a determination on your loan. However, rather than getting approved or denied, you might get a conditional approval: Request for a well-qualified cosigner.
What does that even mean?
Definition from Investopedia: Cosign – “The act of signing for another person’s debt which involves a legal obligation made by the cosigner to make payments on the other person’s debt should that person default.”
Simply put… if you get a cosigner on your loan and stop making payments, the cosigner is liable to make your payments.
Easy enough, right? Well…yes, and no. Let’s bookmark this phrase and come back to it in a bit.
Why can’t you get this loan by yourself?
Here are some common reasons they’re looking for a cosigner:
–Credit: Not enough credit history, missed payments, collection items.
–Job: Irregular employment (temp, drastically changing hours), new to your job, lack of employment history.
–Income: Low income in relation to your loans, Irregular income (paychecks vary drastically)
–Debt to Income: You’ve got a lot of loans out there and the lender isn’t confident that you can make your loan payments, this NEW payment, and buy everything you need to survive in life.
Long story short… something in your loan application suggests that you might not be able to pay all of your bills on time, every time, for the entire length of the loan…based on historical examples of others who have been in your situation.
Think like a lender.
Nobody intends to get behind on their loans. We will hustle to make ends meet to pay our bills. However, we have to put our emotion aside and remember that we are talking about ‘business’ right now.
If your friend asked to borrow $5,000 of your hard-earned money, and they can afford to pay you $250 every month right now…but you have reason to believe that they might end up in a situation later this year which stops them from being able to pay you (maybe for a couple of months, maybe altogether—meaning you lose your 5k), would you write them a check?
Your lender is thinking the exact same thing.
By requesting a cosigner, the lender is basically saying “you’re not too BAD to lend money too, but we need somebody else in your corner.” They’re looking for somebody who is a better risk, makes payments on-time, has stable employment, and doesn’t keep the lender wondering if they’re getting paid next month.
The truth about being a cosigner.
A cosigner’s obligation to repay debt only comes into play when the primary borrower starts missing payments or defaults on their loan.
However, that doesn’t mean that cosigner is “off the hook”. The cosigner is 100% responsible for this loan, just like the borrower.
–This loan will show on credit reports. Meaning, if you’re a cosigner and you apply for your own loan in the future, they’re going to count the cosigned-loan towards your debt-to-income ratio, in full, regardless of who actually makes the payments. It’s just as much your debt as it is theirs.
–Missed a payment? Any and all late payments will be reported to your credit report. This will bring down your credit score and stay on your report for 7+ years.
–Did they stop paying? If you don’t immediately make good on the loan, you’ll be sitting in court with them, because you’re just as responsible. You’ll be subjected to the credit penalties, fees, and a potential judgement.
–Ultimately… do you trust this person? As a cosigner, you need to determine whether or not you’re comfortable with the borrower’s ability to repay this loan, your capactity/willingness to pay it yourself.
When you’re not the one spending your own money on these payments, it’s easy to think that you’re not “responsible” to pay it every month…but remember this fact:
The lender wouldn’t have approved this loan unless YOUR NAME was on it.
Why you might want to cosign.
Even though there are very few mathematical reasons to getting a cosigner, here are a few benefits:
–Reduced rates: The cosigner’s credit report is probably in better condition, so the loan would be subject to lower interest rates.
–Helping out a loved one: Maybe there is a good reason that the loan isn’t getting approved by itself, and it’s known that they will truly make good on this loan and put the money to good use. The cosigner’s signature will make the difference they need.
–Young Adults: It’s difficult to get your very first loan because you likely don’t have very long job-time, and no prior lending history. Getting a cosigner can be a good tactic to use somebody’s established lending history to begin yours. If this is your situation…check out THIS post on other ways to build (or rebuild) credit, too.
Learn from my (father’s) mistakes.
Remember that laptop computer I wrote about in THIS post that I needed for college? That computer was purchased on a credit card that my father cosigned on for me. Five months after we bought it, I lost my job and went unemployed for a few months. I could either buy food, or pay my credit card bill.
Those late payments still reflect on my credit report, 6 years later, which means they’re still on my father’s report too. My husband and I hold nearly every single loan jointly, but his credit score is 60 points higher than mine because he doesn’t have late payments dragging him down.
You’re ability to earn money is infinite. Your reputation is not.
I don’t know my father’s credit score, but I do know that he had to pay for my mistakes. If somebody needs to borrow money and you want to help out… just give them a gift of cash, no strings attached. My father took my payment mistakes like a champ and our relationship didn’t strain because of it. Others aren’t so lucky.
Because of my own laptop woes, I would never cosign for somebody, and I wouldn’t ask somebody to cosign for me. I strongly advise that you don’t do the same, either.
Your relationships will always be worth more than any loan.
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