A co-signer is a person who helps a borrower secure a loan by agreeing to be legally responsible for repayment if the borrower defaults. Here are the pros and cons of co-signing, along with some practical alternatives.
- If you have poor credit and wouldn't qualify for a personal loan on your own, having a co-signer with good credit can help you get approved.
- While a co-signer doesn't have to agree to make payments on a loan, they are legally responsible for making sure the loan is repaid.
- Co-signers take on a substantial risk, since their personal credit will take a hit if payments are late or the loan goes into default.
What to Look for in a Co-Signer
You may need to get a co-signer for a personal loan if you can't qualify on your own, or if your credit history limits you to loans with poor rates and terms. That can be the case if you have a low credit score or are new to the world of credit and haven't established enough of a record to have a score yet. The latter is often referred to as having a thin file.
Since the point of adding a co-signer is making you seem less of a risk to lenders, you'll want to ask someone who is in a stronger financial position than you are. In most cases that is likely to be a family member or close friend.
This can mean any (or all) of the following:
Having a co-signer with "good" credit, such as a FICO score of 670 to 739, can help you qualify for a personal loan with reasonable rates and terms. If you have a co-signer with "very good" credit (FICO scores from 740 to 799) or "exceptional" credit (FICO scores of 800+), your chances of securing a personal loan with the best possible rates and terms improve even further.
Low Debt-to-Income (DTI) Ratio
Lenders also look for loan applicants whose co-signers have a relatively low debt-to-income (DTI) ratio. That figure compares a person's monthly debt payment obligations to their monthly gross income.
According to Discover, many lenders consider a DTI of 43% to be the threshold where creditworthiness begins to wane. In other words, lenders don't like to see someone using more than 43% of their income to cover their debts.
A solid and reliable income is another must when it comes to a co-signer. That suggests that the co-signer could afford to pay the debt if need be.
Advantages and Risks of Using a Co-Signer
While having a co-signer can be beneficial, it also involves some risks that both parties should be aware of.
Advantages of Having a Co-Signer
- Acquire funding when you can't qualify on your own: If you need a personal loan for some purpose but wouldn't qualify for one at this point, a co-signer can be the answer.
- Qualify for better rates and terms: Even if you might otherwise qualify for a personal loan, having co-signer with a strong credit score and a good income may get you lower interest rates and better loan terms.
- Improve your credit score over time: Your credit score will steadily improve as you make on-time loan payments if the lender reports your payments to the credit bureaus. (If improving your credit score is one reason you're taking the loan and enlisting a co-signer, make sure the lender does report to at least one and ideally all three of the major credit bureaus.)
Risks of Using a Co-Signer
- Your actions can impact the co-signer's credit score: Paying your bill late or defaulting on the loan will hurt your co-signer's credit as well as your own.
- The arrangement can last for years, which may be longer than you prefer: Some loans let you "release" a co-signer at some point in the process, but it's not always an option.
- Your relationship may become strained: If you accidentally make payments late or repayment doesn't go as planned, the personal relationship you have with the co-signer could be damaged.
Before you ask someone to become a co-signer on a personal loan, make sure you wouldn't qualify without them. Many lenders have a prequalification process that lets you gauge your chances of approval (and how much money you might be able to borrow) before you move forward with an application. Unlike a formal credit application, this also has no impact on your credit score.
Co-Signer vs. Co-Borrower
A co-signer guarantees another person's debt but doesn't have any ownership of whatever the loan funds are used for. Ultimately, that's where a co-borrower is different.
In the case of personal loans that allow joint applications, the co-borrower is just as responsible for repayment as the primary borrower. However, they also have rights to the loan funds or any collateral used to secure the loan.
Alternatives to Co-Signing
If you've been asked to co-sign a loan but are unsure whether it's a good idea, you might want to consider some other options. These alternatives offer another means of helping the primary borrower without putting your personal credit on the line.
- Offer your own loan: If you're willing and able to lend the borrower the money they need, they could make payments to you over time. This would ensure that your credit isn't damaged if they don't meet their responsibilities, although it would also make you responsible for collecting payments from them. If you go this route, be sure to formalize it with a written agreement so there are no misunderstandings.
- Apply for the loan on your own: You could also apply for the loan yourself and let the person you're trying to help access the money. From there, they could make payments to you, which you could then use to repay the lender.
- Offer collateral to help secure the loan: You could also supply collateral for a secured personal loan that the borrower would apply for on their own. Collateral could be money in a savings account or certificate of deposit (CD), a car title, or something else of value.
What to Consider Before Co-Signing a Loan
Before you co-sign a personal loan for someone else, there are a number of important factors to keep in mind:
- Being a co-signer can limit your own borrowing options: As the Federal Trade Commission notes, co-signing on a loan may prevent you from being able to borrow money on your own in some scenarios. For example, it might push your debt-to-income ratio too close to the acceptable limits.
- You will have to repay the loan if the primary borrower fails to do so: If the borrower defaults on the loan, you will be legally obligated to repay it and debt collectors may pursue you.
- Co-signing on a loan puts your personal credit at risk: You may be asked to co-sign because you have a high credit score, but this may not be the case for long if the primary borrower pays their loan bill late or not at all.
Will a Co-Signer Help You With Other Kinds of Loans?
Having a co-signer can help you get approved for many types of loans, including car loans and home mortgages. While credit cards that allow for co-signers are rare, there are other options, such as becoming an authorized user on someone else's card.
Does a Co-Signer Have to Be Present When You Apply?
You can typically apply for a personal loan with a co-signer online, and neither of you has to visit the bank or other lender in person. The exception is if your lender is a brick-and-mortar financial institution without a digital presence.
Whose Credit History Is Affected by a Co-Signed Loan?
When a loan is co-signed, the credit of the primary borrower and the co-signer can expect equal impact. The effect can be positive as long as payments are made in a timely fashion, but negative if they are not.
The Bottom Line
Getting a personal loan with a co-signer can be a tricky situation, mostly because you have to find someone willing to put their credit at risk to help you. That said, it can work just fine if you take borrowing seriously and always make your loan payments on time.
Before you take out a personal loan with a co-signer, take a close look at your monthly income and expenses to make sure you can afford the new loan payments. If you aren't sure, it may not be worth the risk—to both your financial standing and your relationship with the co-signer.