What Is a Cosigner?

What Is a Cosigner?

A cosigner is someone who pledges to take responsibility for repaying another person's loan if that person fails to pay. Many lenders require a cosigner when the main borrower has little or poor credit, limited income or a high debt-to-income ratio (DTI). When a cosigner adds their name to a borrower's loan application, they agree to allow the lender to review their credit profile and financial information to determine their eligibility. They also agree to take legal responsibility for repaying the loan and any fees if the borrower doesn't pay.

While a qualified cosigner can help someone with lesser qualifications obtain a loan or lease, the cosigner must understand the potential risks involved. Mainly, if the primary borrower fails to repay the loan, the cosigner is legally responsible for the debt, and their credit score could be negatively affected.

Who Qualifies As a Cosigner?

Generally speaking, a cosigner should be able to qualify for a loan on their own. Essentially, the lender wants the cosigner to help reduce the risk of lending to the primary borrower, especially if their qualifications aren't strong.

Typically, a cosigner must have the following:

• A good to excellent credit score of 670 or higher
• Sufficient income to repay the loan
• A debt-to-income ratio of less than 50%. In other words, less than 50% of your income goes toward debt payments each month, including payments on the cosigned loan.
• Required documents such as a government-issued ID, Social Security number and proof of income

Cosigner vs. Co-Borrower

Borrowers can add a cosigner or co-borrower to a loan application. While these two terms may have some overlap in meaning, they are distinctly unique. Like a cosigner, a co-borrower applies alongside a borrower and shares equal responsibility in repaying the loan. But that's where the similarities end.

That's because, unlike a cosigner, a co-borrower also shares ownership of the loan funds or the asset being financed through the loan. For example, if an applicant and co-borrower apply for a car loan, the names of both borrowers will be on the car title. Additionally, a co-borrower typically contributes to loan payments, whereas a cosigner usually doesn't expect to repay the debt unless the primary borrower defaults.

Advantages of Cosigning

Cosigning for a loan offers a few notable benefits, such as:

Your Approval Odds May Increase

Typically, when you cosign a loan, the primary borrower receives the greatest benefit. If, by cosigning, you can add your strong creditworthiness to a loan application, you can effectively offset the lender's risk of lending to a primary borrower who may have lesser qualifications. With strong credit and steady income, your signature could improve a loan's approval odds, potentially with more favorable terms.

Your Credit History Could Improve

When you cosign on a loan, it will appear on both your credit report and that of the primary borrower. As long as the loan's payments are made on time each month, it should be noted on your credit report as paid as agreed. Remember, payment history is the most important factor in your credit, accounting for 35% of your credit score.

Of course, your score could also be harmed if payments are late or missed, so only consider cosigning for someone you believe is responsible and reliable enough to make timely payments.

You Can Help a Friend or Relative in Need

Cosigning for someone with bad credit could help them get approved and save hundreds or thousands of dollars in interest. Even better, you can play a part in helping the primary borrower learn to manage credit responsibly while building a credit history that could prepare them to qualify for credit on their own in the future.

Disadvantages of Cosigning

Before cosigning on a loan for another person, it's essential to understand the potential drawbacks of doing so.

Your Credit Could Be at Risk

As a cosigner, your credit could take a hit if the borrower pays late or misses payments and the lender reports the delinquency to the credit bureaus. This can cause your credit score to plummet. Even worse, if the borrower defaults on the loan, the debt may go to collections, which could appear as a derogatory item on your credit report for up to seven years.

You're Legally Responsible for the Debt

You will be on the hook for missed payments as a cosigner if the primary borrower falls behind on their debt payments. If the debt is assigned to a collection agency, a collector could come after you to recover the loss. In that case, you'd be responsible for the debt and any late fees or debt collection costs.

According to the Federal Trade Commission, some states allow lenders to pursue the cosigner for repayment before targeting the primary borrower if payments are not received. In that case, a lender could take legal action, such as suing you or garnishing your wages, to collect payment.

You May Find Removing Yourself as a Cosigner Challenging

If you want to remove yourself as a cosigner, it's up to the lender to decide if the primary borrower can make payments on their own. The only other way to remove yourself as a cosigner is for the primary borrower to refinance or pay off the loan. If it's a mortgage loan, you could get released once the borrower sells the property and the loan is paid in full. For other loans, read the fine print to determine the terms under which you can be released as a cosigner.

You May It Harder to Qualify for New Credit

If you cosign a loan and then need to apply for credit for yourself, the lender may deny you because your current debt levels are too high. That's because cosigning a loan may raise your debt-to-income ratio, which measures the amount of your total monthly debt payments against your gross monthly income. Your DTI is an important factor lenders consider when reviewing your application for new credit. If your DTI is too high, you may not qualify for a new loan.

Alternatives to Cosigning

If cosigning a loan is too risky for you, you can still help a friend or loved one in other ways you may be more comfortable with, such as:

• Lending money from your savings: If you have enough in your savings account, you may prefer lending the money rather than cosigning a loan. Of course, you risk losing the money if the other person doesn't repay you, so only lend to someone you trust. Establishing expectations with a written agreement may ease any strain on your relationship. Set expectations from the beginning by outlining your repayment terms and circumstances for nonpayment.
• Getting a loan yourself: If a borrower wants you to cosign for a smaller amount, you may be more comfortable taking out the loan yourself. Doing so leaves you as the sole person in charge of making sure payments are made on time. With a smaller loan, you wouldn't have to come up with large payments if the person you're borrowing for doesn't pay you for the loan.
• Encouraging a secured loan instead: Many lenders accept bank account savings as collateral against a loan. Instead of cosigning, you could offer savings account funds to secure a loan. Yes, you could lose the collateral if the primary borrower doesn't pay as agreed, but your credit wouldn't be at risk since your name isn't attached to the loan.
• Helping the borrower improve their credit and income: Borrowers who don't qualify for a loan or lease without a cosigner could boost their chances of approval by taking steps to improve their credit score. Additionally, the borrower could lower their DTI ratio by paying down debt or increasing their income by working extra hours, taking a second job or starting a side hustle.

Credit Monitoring Can Help Track Credit Report Changes

While having a cosigner can improve the odds of approval for a new loan, it can also strain the relationship between a primary borrower and a cosigner. After all, the cosigner carries a significant amount of risk, both financially and in terms of their credit. With so much on the line, you might consider only cosigning for a close friend or family member you trust will keep up with the payments.

Whether you're the primary borrower or cosigner, you may benefit from free credit monitoring fro Experian. You'll receive alerts to changes in your credit score, including hard inquiries, new accounts and missed payments. Regularly monitoring your credit may help you track your progress to build credit and alert you to potential problems that could derail it. Receiving alerts of credit report changes gives you an early opportunity to take fast action to help maintain a positive credit profile.