Understanding what cosigning involves
Cosigning a Loan
What would you do if a friend or relative asked you to
cosign a loan? Before you answer, make sure you understand what cosigning
involves. Under federal law, creditors are required to give you a notice that
explains your obligations. The cosigner's notice states:
- You are being asked to
guarantee this debt. Think carefully before you do.
If the borrower does not pay the debt, you will have
to. Be sure you can afford to pay if you have to,
and that you want to accept this responsibility.
- You may have to pay up to
the full amount of the debt if the borrower does not
pay. You may also have to pay late fees or
collection costs, which increase this amount.
- The creditor can collect
this debt from you without first trying to collect
from the borrower.* The creditor can use the same
collection methods against you that can be used
against the borrower, such as suing you, garnishing
your wages, etc. If this debt is ever in default,
that fact may become a part of your credit record.
- This notice is not the contract that makes you liable for the debt.
* Laws in your state may forbid a creditor from collecting
from a cosigner without first trying to collect from the primary debtor.
Studies of certain types of lenders show that for cosigned loans that go
into default, as many as three out of four cosigners are asked to repay the
loan. When you're asked to cosign, you're being asked to take a risk that a
professional lender won't take. If the borrower met the criteria, the lender
wouldn't require a cosigner.
In most states, if you cosign and your friend or relative misses a payment,
the lender can immediately collect from you without first pursuing the
borrower. In addition, the amount you owe may be increased by late charges or
by attorneys fees if the lender decides to sue to collect. If the lender wins
the case, your wages and property may be taken.
If You Do Cosign
Despite the risks, there may be times when you want to cosign. Your child
may need a first loan, or a close friend may need help. Before you cosign,
consider this information:
- Be sure you can afford to pay the loan. If you're asked to pay and can't,
you could be sued or your credit rating could be damaged.
- Even if you're not asked to repay the debt, your liability for the loan may
keep you from getting other credit because creditors will consider the cosigned
loan as one of your obligations.
- Before you pledge property to secure the loan, such as your car or
furniture, make sure you understand the consequences. If the borrower defaults,
you could lose these items.
- Ask the lender to calculate the amount of money you might owe. The lender
isn't required to do this, but may if asked. You also may be able to negotiate
the specific terms of your obligation. For example, you may want to limit your
liability to the principal on the loan, and not include late charges, court
costs, or attorneys' fees. In this case, ask the lender to include a statement
in the contract similar to: "The cosigner will be responsible only for the
principal balance on this loan at the time of default."
- Ask the lender to agree, in writing, to notify you if the borrower misses a
payment. That will give you time to deal with the problem or make back payments
without having to repay the entire amount immediately.
- Make sure you get copies of all important papers, such as the
loan contract, the Truth-in-Lending Disclosure Statement, and warranties, if you're
cosigning for a purchase. You may need these documents if there's a dispute
between the borrower and the seller. The lender is not required to give you
these papers; you may have to get copies from the borrower.
- Check your state law for additional cosigner rights.
