Cosigned loans allow two parties to share responsibility for repaying a debt. One person takes out the loan as the primary borrower, while the other acts as the cosigner to improve the chances of getting approved. While cosigning can help people access credit, it also comes with major legal and financial obligations that both parties must fully understand before signing on the dotted line.
This comprehensive guide will explain what cosigned loans are, why people use them, the pros and cons to weigh, responsibilities and risks for both the primary borrower and cosigner, how to remove a cosigner from a loan, and key takeaways to consider before making this long-term commitment.
What Is a Cosigned Loan?
A cosigned loan is a loan that has both a primary borrower and a cosigner share legal responsibility for repaying the debt. The primary borrower is the person who applies for, is approved for, and receives the proceeds from the loan. This may be funds for a mortgage, auto loan, student loan, personal loan, business loan, or other credit need.
The cosigner does not receive the loan funds directly, but agrees to take on equal liability for making the payments if the primary borrower fails to do so. Essentially, they are “co-signing” on the loan and pledging their own creditworthiness and assets as collateral if default occurs.
Having a cosigner who has strong credit and income makes lenders more willing to approve loans for applicants who may not qualify on their own. It provides extra assurance that monthly payments will be made since two parties are now responsible for the debt, not just one.
Why Do People Cosign Loans?
There are several common reasons that borrowers look to cosigners when applying for loans:
To Access Credit With Limited Credit History
Younger borrowers often have difficulty getting approved for loans since they lack a strong credit history. Having an established cosigner with good credit can help them access reasonable loan terms to start building credit or get approval for major purchases like homes or vehicles.
To Get Better Loan Terms and Interest Rates
Even borrowers with fair credit may fail to get the best loan terms or interest rates when applying individually. Adding a cosigner with excellent credit means lenders view the application as lower risk, often resulting in lower interest rates and fees.
To Qualify for a Larger Loan Amount
Lenders determine loan amounts by taking into account income and existing debt obligations. Cosigners who earn high incomes and have low debt can help primary borrowers qualify for larger loans for major expenses like college tuition or home down payments.
To Avoid Providing Collateral
Loans sometimes require posting valuable property as collateral that could be claimed in a default. Having a cosigner may allow approval without liens placed on homes, cars, or savings accounts.
To Share Financial Responsibilities
Many cosigners are family members or close friends willing to share repayment duties to help the primary borrower accomplish goals like higher education, home ownership, or starting a business. It spreads the financial risk and commitment.
To Rebuild Damaged Credit
Those with troubled credit histories may not qualify for new credit. Adding a cosigner demonstrates financial responsibility to lenders and allows access to credit that helps gradually repair credit scores over time.
Pros of Cosigned Loans
Cosigning arrangements offer some potential advantages:
- Improved approval chances – Having a cosigner can mean the difference between getting approved or denied based on making the application look less risky to lenders.
- Better rates and terms – Interest rates, fees, loan amounts, and other terms often improve by leveraging the cosigner’s finances and credit profile.
- More affordable payments – Lower interest rates helped by a cosigner make large purchases more affordable to repay over time.
- Credit building – Managing payments responsibly helps improve credit access and scores for those with limited histories.
- Shared financial burdens – Cosigners help friends or family members achieve goals that would otherwise remain out of financial reach.
Cons of Cosigned Loans
However, cosigning also comes with downsides to carefully weigh:
- Legal liability – Cosigners take on equal legal responsibility for repaying the debt as the primary borrower.
- Impacted credit – Late payments or defaults will damage the credit histories of both the primary borrower and cosigner.
- Strained relationships – Financial disputes or repayment issues put important personal relationships at risk.
- Potential collection actions – Lenders can pursue both parties’ wages, bank accounts, and assets to collect on unpaid cosigned debts.
- Complex exit strategies – Removing a cosigner from a loan before it’s fully repaid typically requires refinancing or selling collateral.
The decision to cosign a loan should not be taken lightly. The cosigner is putting their finances and credit on the line just as much as the primary borrower. Open communication and commitment to meeting repayment obligations from both parties are critical.
Primary Borrower Responsibilities with Cosigned Loans
When you are the primary borrower on a cosigned loan, you gain the benefits of improved loan access but also take on important duties:
Make All Payments On Time
Every payment you miss damages both your credit and the cosigner’s. Set up automated payments if needed to avoid accidental late payments.
Keep the Cosigner Informed
Provide loan statements and updates on your finances to reassure the cosigner you remain able and willing to repay as agreed.
Avoid Taking on More Debt
Too many obligations make repayment difficult and worsen your credit profile over time. Live within your means.
Try to Refinance Without the Cosigner
If possible, qualify to refinance the loan solely in your name later to release the cosigner from liability.
Prioritize Paying Off the Loan
Make extra payments when possible to pay off the balance faster and limit how long the cosigner remains obligated.
Upholding your end of the agreement maintains trust and goodwill with the cosigner while establishing your creditworthiness. Defaulting ruins not just your finances but those of someone who did you a good turn when you needed it.
Cosigner Responsibilities
Serving as a cosigner is a major financial commitment. While the primary borrower receives the loan, you also have legal duties:
Understand Your Full Liability
By cosigning, you agree to cover missed payments and repay the balance if the primary borrower defaults. You are equally on the hook.
Review Statements and Account Activity
Check that payments are being made on time every month. Ask for updates from the lender and borrower.
Maintain Contact With the Primary Borrower
Have frank discussions about changes in income, employment, or ability to afford payments before issues arise.
Be Prepared to Make Payments
If the primary borrower struggles, you may need to make payments to protect both your credit and the relationship.
Explore Options Before Default
Look into hardship programs or loan modifications if possible before allowing accounts to become delinquent.
Decline Requests You Aren’t Comfortable With
Only cosign if you fully trust the borrower’s ability and willingness to repay as agreed.
While cosigning does help others, it is not merely a favor. As a cosigner, you put your personal credit and finances at equal risk of damage in the event of default.
Removing a Cosigner from a Loan
Ideally, every cosigned loan would end with the primary borrower eventually qualifying to take over the loan themselves and releasing the cosigner of liability. However, this is often easier said than done.
Some potential options for removing a cosigner include:
Refinancing the Loan
If the primary borrower’s credit score or income has improved significantly since getting the original cosigned loan, they may now qualify to refinance the loan into a new loan in only their name. This gets the cosigner off the hook.
Making an Assumption Request
For loans like mortgages with substantial built-up home equity, the primary borrower can request the lender transfer the loan fully into their name through an assumption.
Paying Off the Balance
If possible, the fastest way to remove a cosigner is for the primary borrower to pay off the entire remaining loan balance, ending the loan for both parties.
Unless one of these actions occurs, the cosigner remains responsible for the debt. Simply making regular payments does not reduce their liability. Borrowers should have a clear path to eventually releasing the cosigner before asking them to sign on to a long-term obligation.
Key Takeaways on Cosigned Loans
Cosigning enables people to access credit and achieve goals together. But it also creates serious shared duties between the primary borrower and cosigner. Keep these tips in mind:
- Cosign as a borrower only after careful budgeting confirms you can realistically handle payments long-term.
- Limit requests for others to cosign to essential big-ticket expenses you could not otherwise finance.
- Cosign as a favor for others only with full understanding and acceptance of the legal liability involved.## FAQ on Cosigned Loans
1. Does a cosigner have to be a relative or spouse?
No, a cosigner does not have to be related or married to the primary borrower. However, cosigners are commonly parents, siblings, grandparents, spouses, or other family members willing to help out someone they are close to. But it’s also possible for close friends, coworkers, mentors, business partners, or anyone else with strong credit to cosign if they want to help the primary borrower qualify.
2. Can a cosigner later switch roles to become the primary borrower?
While rare, it is sometimes possible for the original primary borrower to exit the loan and the cosigner to take over as the primary borrower making payments. However, this would require formally modifying the loan agreement with approval from the lender. The lender will likely rerun credit checks and evaluate if income is adequate before allowing the cosigner to take over the loan in the primary role.
3. Does making payments build credit for the cosigner too?
Yes, if payments are made on time, it has a positive impact on both the primary borrower and the cosigner’s credit histories. Any late payments also damage both parties’ credit equally. Making consistent on-time payments can gradually help build and improve credit scores for cosigners with limited other credit accounts.
4. Can a cosigner remove themselves from a loan?
No, cosigners cannot simply remove themselves from a loan. Cosigners are legally obligated to repay the loan if the primary borrower defaults. The only ways to be removed are if the primary borrower refinances the loan without the cosigner, the lender agrees to release the cosigner through an assumption, or the entire loan balance gets paid off.
5. Does filing bankruptcy release a cosigner from liability?
No, declaring personal bankruptcy does not get a cosigner off the hook. Since cosigned loans are joint debts, they are typically excluded from being discharged through the bankruptcy process. The cosigner remains responsible unless the primary borrower continues making payments as agreed.
Conclusion
Cosigning a loan is a major commitment and affects both parties financially. Understanding the obligations, risks, and repayment requirements before signing is critical. With good communication and follow-through, cosigned loans can help people achieve important goals while building their credit profiles and financial futures. But all choices around borrowing and lending should be made cautiously and deliberately after thoroughly reviewing the pros and cons.