With our consumer focus on credit, it should be no surprise that a good credit score is a must for anyone. Good credit scores are necessary for loans, but they can also help with lower insurance rates, rental applications, and even employment. Good credit provides more opportunities than bad credit. So, what do you do when your credit is less than stellar or you have no credit at all? One solution is co-signing.
What is Co-Signing?
Co-signing is a process where one person signs as the guarantor on another’s loan or agreement. This is applicable when the original applicant doesn’t have good credit history or very little income history. Common co-signing scenarios include parents co-signing for their child’s rental application or a parent co-signing for an auto loan. Other forms of co-signing are when you apply for a mortgage and need two incomes to get approved. The signer and co-signer are both responsible for the loan and their credit is affected by the handling of the loan.
This process happens often for those looking for loans, but don’t have the appropriate financial credentials to back up the loan. When a co-signer signs a loan, they are specifically saying they will be financially responsible for the rest of the contract if the original applicant doesn’t pay.
Parents are the most common co-signers on loans and even credit cards. This process helps an applicant get approved for a loan or rental application. Co-signing can also help build credit for the other borrower. This is a common practice with credit cards.
Since credit cards are a great way to build up credit history, people with bad or no credit should focus on getting one. Many credit card companies won’t approve students with little to no income or who have no credit. A process called piggybacking is a popular method used by parents and their children. This method involves a parent adding their child onto their credit card account as an authorized user. The parent still controls the account and if they keep it in good standing, they slowly build the credit of their child.
The Credit CARD Act made it illegal for anyone under the age of 21 to get a credit card without proper income verification or a parent co-signer. Piggybacking can help a child who wouldn’t get approved build their credit over time and learn responsibility and proper credit card usage.
Co-signing has become more than just an act between parents and their young children. It’s also coming into play with Millennials and their parents. 32% of Millennials say they are financially dependent on their parents, according to a Fidelity Investments report. Two-thirds of Millennials also say they have no problem moving back in with their parents. With high student loan debt and low job prospects, some Millennials still need their parents for support. 75% of them would ask their parents to co-sign a loan and 77% believe their parents would do it.
Does Co-Signing Affect Your Credit?
The short answer is “yes.” If you co-sign a loan with anyone, not only are you responsible for said loan, but it also directly affects your credit profile. Remember, co-signing is just allowing someone to borrow against your credit profile. The loan gets added as an outstanding debt on your credit. It also counts toward your debt to income ratio, which could affect your ability to get another loan. Since a credit score is calculated with a variety of factors, such as payment history, amount owed, types of credit, etc., your credit score could be affected by co-signing any loan. Even if the loan is paid on time and paid off, your score can be decreased depending on your overall credit health. Adding more debt to your credit profile can drop your score. If you want to obtain a loan on your own, outside of the co-signed loan, then understand the lender will scrutinize your credit application due to the added debt.
When is Co-Signing OK?
As shown above, there are some scenarios when it’s OK or necessary to co-sign for a loan or other application. These typically involve when it’s necessary to get approved for an application. Most landlords won’t approve someone who has very little income or poor credit history. To get approved to rent an apartment or townhouse, it might be necessary to co-sign. If you need to purchase a car, but don’t have enough cash to pay for it outright, then it could be a good idea to co-sign.
Co-signing can be great for those who need the additional guarantor, but it can be dangerous for those who are actually doing the co-signing. Parents and those putting up their signature need to be wary of what they are signing. Remember, when you co-sign, you are indicating you will be financially responsible for any outstanding debt or obligation if the signer doesn’t fulfill their end. You should only co-sign a loan or application if you have the means to cover the contract if it goes south. If you can’t afford to make payments, don’t sign on the loan. It’s not financially wise to put yourself in a dire situation just to appease your child or friend. You are just as obligated to fulfill the contract as the signer. Be careful of who you co-sign for and make sure they are responsible and have the means to repay their obligations.
By Grayson Bell, Staff Writer