Have you ever been asked to co-sign a loan or a credit card for one of your children? Have you ever promised to guarantee a loan for a family member or a close friend? Now that the CARD Act of 2009 prohibits anyone under 21 from getting a credit card without a co-signer, you may find yourself in a sticky situation sooner or later.
Assuming that you agree to do it, you could be making a tragic mistake that not only ruins your own credit score but also wrecks your relationship with your loved one, as well.
Your credit can be ruined
Most people realize that they are promising to pay for someone else’s loan or credit card bill when they co-sign for the other person they do not repay. You are placing your faith in that other person that they will pay their debt off in accordance with the loan or credit card agreement.
When you co-sign for a loan or a credit card, you are on the hook for any debt that is not paid off. According to the Federal Trade Commission (FTC), recent studies have shown that 75% of all defaulting loans with co-signers are ultimately repaid by the co-signer, and not the original borrower.
Lenders are often quick to start calling and writing co-signers when they have not received the payments that are owed. They also report the late or missed payments to the co-signer’s own credit report. The bottom line is that you put your own financial well-being at risk when you co-sign a loan.
Hard feelings from family
Dave Ramsey is famous for saying that the turkey at Thanksgiving doesn’t taste the same when you owe someone in your family money. There are inherent dangers in either lending money to family members or guaranteeing their loans.
Ultimately, there is a chance that you may wind up holding a grudge against the borrower for not repaying the loan in a timely fashion. Your relationship fundamentally changes, and you may end up holding the loan and its repayment over the other person’s head.
This incredible power ultimately changes every relationship in some way, and it’s typically not a change for the better.
Lenders do not have to talk to you
Even though you’ve co-signed for the loan, you have almost none of the rights granted to the original borrower. In most cases, you cannot contact the lender check on the status of the loan or its repayment. The lender is also not required to inform a co-signer when details about the loan or credit card change.
One example that may startle many co-signers is that the borrowers can ask a credit card issuer to raise their credit limit and this is typically done without the knowledge, permission, or notification of the co-signer. This can turn into a very dangerous situation where the amount owed could balloon out of control.
You may have a hard time borrowing
Another thing that you may have not considered is that co-signing for a loan not only puts your name on the dotted line with the actual borrower, but it also goes on your credit report as if you had borrowed the money yourself. This affects things like your credit utilization and your debt-to-income ratio. Ultimately, this can limit your ability to open new accounts of your own.
If your friend or family member starts missing payments, your credit score will quickly be affected, too. This could make it even harder for you to borrow money in your own name.
It’s hard to tell someone that you are close to that you cannot or do not want to help them by co-signing for a loan. There are some people who simply will not be able to say no. Everyone must make their own decisions regarding if and whom they will help by co-signing.
In the end, it is very important to be aware of the many dangers of co-signing a loan. Not only can it affect your credit score and your ability to secure your own new loans, but it also has the chance to ruin your relationship with those that you care about the most.