Getting approved for a personal loan or other financing often requires a strong credit history and income documentation. For borrowers struggling to qualify on their own, bringing on a credited cosigner can make the difference in getting approved or denied.
What does cosigning entail exactly? Whether you’re assisting a family member, a friend, or a romantic partner, agreeing to take on legal liability for someone else’s loan is a significant commitment. Both parties need to fully understand the risks and key considerations beforehand.
Below, we’ll clarify essential details regarding cosigned loans – from approval factors to managing payments. Understanding these key processes helps reduce the likelihood of disputes in the future.
What is a Cosigner on a loan?
A cosigner serves as an additional signee, assuming equal responsibility for repaying loan principal plus interest as the primary borrower per the original terms. Cosigners must complete the full loan application and qualify based on personal credit/income, including undergoing a personal loan pre approval process. They also sign all legal loan paperwork.
The cosigner’s credit score and income often become the determining factors in gaining loan approval and dictating interest rates. Additionally, cosigners have equal access to the loan balance at any time unless credit agreements restrict them.
If the primary borrower misses or is late on payments, the cosigner becomes fully responsible for repayment to avoid delinquency and negative credit reporting. Even after paying off the balance, the history of cosigning remains on both parties’ credit reports for many years.
Why include a cosigner on a loan?
Here are the most common reasons why borrowers enlist cosigners when applying for installment loans or other long-term financing agreements:
- Lack of required credit history – Young borrowers may not have sufficient independent credit yet established, which heavily influences approval odds and pricing through credit scores. Adding an experienced cosigner can offset limited historical data.
- Increased loan access – higher combined income between borrower and cosigner could qualify for larger maximum loan amounts or better rates than applicant alone.
- Improved approval chances – Applicants with poor or no credit or unstable incomes, paired with a cosigner, exhibit lower payment risk to lenders.
- Receive better rates – Even when approval is unquestioned, an exceptionally strong cosigner credit score can qualify borrowers for the lowest interest rates.
- Meet underwriting requirements – Certain lenders require minimum cosigner conditions before disbursing loan funds, depending on specific applicant situations, such as financing startup businesses.
When considering a cosigner, consider whether credit limitations or income uncertainty are the larger issues, then assess if adding a joint signer resolves approval obstacles or pricing. Simply discussing with a potential cosigner may clarify options.
Appropriate Cosigners vs Red Flags
Ideally, the family acts as cosigners – parents, grandparents, or siblings with great credit and finances offer the most accommodating terms and easiest exits. The same applies to exceptionally close friends.
However, romantic partners can pose problems through untimely breakups and vindictive credit reporting, which makes it challenging to unwind. Elderly family members also risk obligations exceeding their lifetimes – leaving negative score impacts that never get resolved.
Less intimate relationships are certainly riskier:
- Old college roommates
- Distant relatives
- Brief dating partners
A general rule – the closer the bonds between the borrower and cosigner, the better. Relationships anchored by family ties or long-term friendships provide the strongest safeguards and support any cracks in trust or temporary connections, which are red flags.
Never take an important financing decision, such as recruiting a cosigner, lightly or through informal arrangements. Significant credit score impacts, lasting 7-10 years, can easily result from misunderstandings. Vet any non-intimate cosigners extensively beforehand.
Cosigner Requirements – Credit and Income
Cosigners undergo the same scrutiny from lenders as primary applicants to qualify and provide approval value. Typical eligibility standards include:
- Credit Scores: Usually 640+, but often 670+ FICO at minimum. The higher, the better for the best rates.
- Income Levels: Vary based on loan amounts, but stable, verified income is crucial. Retired cosigners can use assets as income proof.
- Debt Ratios: Overall debt obligations divided by income should remain below 40%. Lower ratios are stronger.
- Credit History: At least 3-5 years of clean positive reporting is expected, reflecting responsible usage and on-time payments. Bankruptcies within the past 7 years often disqualify.
- Age/Residency: 18+ years old with valid ID. A permanent U.S. legal resident for the duration of the loan term is also required.
Cosigners should exemplify financial prudence and reliability. While defaults severely damage scores regardless, long-time creditors experience less disruption when recovering from credit mistakes, making them attractive guarantors to lenders.
Having candid conversations about money early is wise – don’t just presume a particular family member or friend meets conditions or feels comfortable cosigning loan papers at the last minute. Give advanced notice to review credit profiles together first.
Managing Joint Finances on Cosigned Loans
Clear parameters regarding financial obligations, payment schedules, budgeting check-ins, and emergency contingency plans decided between both parties help avoid later misunderstandings regarding joint liabilities.
Ideally, cosigners receive read-only account access to monitor payment activity for peace of mind. Whether payments and statements get managed directly by the primary borrower or cosigner varies depending on specific agreements – but constant open communication and transparency regarding the loan prevent surprises.
Disagreements over usage can lead to major conflicts in the future, so it’s essential to establish rules that address:
- Payment timing, amounts, and logging
- Income instability alerts
- Refinancing/renegotiating terms
- Late fee coverage
- Periods of financial hardship
- Payment holidays/deferrals
Look out for common “red flag” situations threatening on-time payments:
- Job layoffs/loss
- Medical crises/expenses
- Family emergencies
- Moving costs
- High-interest debt accrual
Discuss a worst-case plan for getting current if the borrower encounters difficulties or if the cosigner needs to step in and cover any gaps.
While hoping for the best, assume worst-case disruptions will likely occur over lengthy loan terms. Preemptively planning for financial shocks or income disruptions helps better navigate turbulent times without destroying important relationships in the process.
Potentially Removing a Cosigner from Loan
Ideally, once the borrower builds an independent credit history plus income stability, eventually the cosigner’s earnings will be released through:
- Refinancing Option – After 12+ months of diligent payments, refinancing the loan solely in the borrower’s name can dissolve original cosigning ties and obligations. Only strong individual applicant profiles typically qualify for refinancing.
- Credit Score Improvement – Sufficiently raising the borrower’s credit score and documented income level to meet lender underwriting as the sole applicant may qualify for cosigner release following 1-2 years of on-time payments, depending on terms.
Many cosigned student loans through Department of Education bank partnerships incorporate formal “cosigner release” options after meeting certain benchmarks, allowing borrowers to petition lenders directly to split financial liability once independently qualifying criteria are established.
For custom personal loans, carefully review initial credit agreements for any language regarding absolving cosigners of debt obligations later in the term after active payments are demonstrated by the primary applicant consistently and sufficiently improving their credit standing.
Although not all personal loan lenders specify cosigner removal procedures, it never hurts to inquire with customer service about potential borrower performance milestones that could qualify. Just reinforces the goal of making regular, on-time payments.
Frequently Asked Questions
What happens if the borrower defaults on the loan?
Defaulting passes repayment liability to the cosigner. They become legally responsible for outstanding payments and penalties. This damages their credit score unless cured rapidly. Communicate promptly in case of financial trouble and contact the lender to discuss options.
Can a cosigner be removed from a loan?
Yes, through cosigner release – if permitted by the lender. Typically, cosigners qualify for removal after consecutive on-time payments over 24-36 months. Check your eligibility, submit release paperwork, and await approval. If denied or unavailable, the cosigner must wait until the loan balance hits zero.
How does cosigning a loan impact future borrowing capacity?
By raising your debt-to-income ratio, added monthly payments reduce the amount available for new borrowing. Additionally, if the primary borrower defaults, your credit score drops, shrinking your qualification chances. Weigh how the loan may restrict future lending carefully beforehand. Seek alternatives if it jeopardizes plans.
Clarity Now Avoids Pain Later
While daunting at first, cosigning loans merely represents temporary partnering to accomplish a near-term goal that the primary applicant couldn’t achieve solo immediately but intends to reach independently down the road upon developing their financial profile further with some assistance.
Maintaining a perspective of the temporary nature of cosigning plus clear contours surrounding expected financial behaviors in writing protects all sides. Communicate respectfully as financial partners on an aligned mission to dissolve joint debts responsibly, as fast as is realistically feasible.
Borrowers wanting shortcuts and seeking cosigner credit scores rather than fixing underlying issues almost always end badly and often permanently damage important personal relationships, far outweighing the temporary benefits of any loan funds secured. Have candid conversations early about realistic timeframes and benchmarks for existing obligations.
Approach cosigned loans as short-term solutions designed to conclude through borrower improvement rather than as never-ending lifelines that perpetuate credit limitations or income instability in the long term. The primary goal is for the primary applicant to ‘graduate’ to the point where they can independently manage their loans, which remains a top priority.