What Does it Mean to be a Cosigner?

People often need a little help getting started financially. For example, getting a loan can represent an opportunity to help someone get money they need, and build a healthy credit record. But it can be hard to get that loan without already having a good credit record.

If you have a friend or family member in that situation, you may want to help. With a good credit record, you could help them get a loan by being a cosigner.

It can be a great way to help, but since there are some risks involved, understanding the responsibilities of a cosigner can help you decide if it’s right for you. 

What is a cosigner?

A cosigner is someone who agrees to share legal and financial responsibility for someone else’s debt. You sign an agreement with the lender that says you'll make the payments on the debt if the borrower fails to.

A cosigner is different from a co-borrower. Being a co-borrower means that besides sharing the responsibility for the loan, you also share the loaned money. Being a cosigner just makes you responsible for paying it back. You don’t get access to the money unless the borrower decides to share it with you.

Think of cosigning as a backstop. Ideally, the primary borrower makes all the payments and eventually the loan gets paid off without it costing you a penny. In the meantime, you’ve helped them get a loan they might not have been able to get on their own.

However, if the primary borrower can’t keep up with the payments, the lender will turn to you.

Cosigning gives the lender extra assurance that the loan will be repaid. That can be crucial in situations where the primary borrower doesn’t have the income or credit history to qualify for the loan. Cosigning allows the primary borrower to piggyback on your qualifications.

How does being a cosigner affect your ability to get credit?

When you cosign a loan, the effect on your credit is much the same as if you took out the loan yourself. This can be good or bad, depending on the situation.

Here are ways being a cosigner affects your credit:

• Payments show up on your credit report. This is very important because payment history is the single biggest factor affecting your credit standing. On-time payments strengthen your credit. However, if the primary borrower misses some payments, it’s likely to hurt your credit.

• Cosigning a loan can improve your credit mix. This metric looks at whether you have experience with different types of credit accounts (credit cards, mortgages, car loans, and so on). Credit mix is another factor in calculating credit scores. If the loan is a type of credit you haven’t used much, having it on your record could help your score.

• The balance owed on the loan affects your debt-to-income ratio. When you apply for a loan, the lender will look at your income and debts to make sure you can afford the payment. The cosigned loan will count, along with any other debt payments you have to make. If your DTI is too high, lenders may not approve you for the new loan you want.

What is a cosigner responsible for?

If you cosign a loan, you're legally responsible for meeting any of the loan terms that the primary borrower fails to meet. This responsibility includes:

• Any loan principal that hasn't been paid back

• Interest payments on amounts owed

• Late fees and collection costs resulting from non-payment

If the primary borrower falls behind or lets the account go into default, the lender can use the same collection methods to get money from you that it could use on the primary borrower. These include referring the debt to a collection company, suing you, and garnishing your wages. 

Who is responsible for the loan if the borrower defaults?

If the borrower defaults on a loan you’ve cosigned for, you and the borrower can both be held responsible for the amount owed. 

In fact, if the lender thinks it has a better chance of collecting from you, it may come after you for payment first. 

In short, there's no buffer between you and the lender. When you cosign, it’s as if you took out the loan yourself. 

Should you agree to be a cosigner?

When you add this all up, why would you agree to be a cosigner? The answer varies, so consider these arguments in each direction.

Three arguments in favor of cosigning include:

• Cosigning can help meet an immediate need for someone you care about

• Cosigning could give that person a chance to build their credit record, so they won’t have to depend on you in the future

• If all goes well, cosigning could have a positive impact on your credit record

On the other hand, reasons to be wary of cosigning a loan include:

• You take on full financial responsibility for meeting the loan terms if the primary borrower defaults

• The factors that affect your credit record are at risk if the borrower can’t handle the account responsibly

• Even without missed payments, the extra debt obligation could reduce your eligibility for new credit until the loan is paid off

How to protect your financial health if you decide to cosign a loan

If you’re thinking about cosigning a loan, take these steps to protect yourself:

• Consider what you know about the person who wants you to cosign. Are they reliable and considerate?

• Look into the reason they need a cosigner. Have they handled credit accounts poorly in the past? Or did something outside their control affect their credit standing?

• Learn what you can about how they’ve budgeted to make the loan payments.

• Request copies of loan statements or online access to the account.

• Think about whether you’ll need to apply for new credit during the loan term, and whether cosigning might affect that.

• Imagine the worst-case scenario. What impact would it have on your finances if the borrower defaults and you have to take over the payments?

• Check your credit reports regularly, so you’re aware of any impact the loan is having.

With these precautions, you can help the borrower with less chance of hurting yourself.