Your good friend approaches you about a loan. He doesn’t qualify for the loan on his own but was told that the loan could get approved if someone with better credit was a cosigner. Your friend wants to know if you can be a cosigner.
Your initial desire is to help. He is your friend. And that’s what friends do, right? They help in times of need.
Cosigning a loan is rarely a wise decision. But it is tough to decline the request because, typically, the request comes from a family member or friend.
So before you sign your name on the promissory note, here are a few reasons why you should reconsider cosigning that loan:
- A lot of downside with very little upside. Remember, there is a reason why your friend cannot get cash loans. It is your credit that allows the loan’s approval. You have good credit. And it is your good credit that is at risk. An additional loan probably will do little to improve your credit score. But if the payments are missed, the loan will injure your credit score. And, more than likely, you do not get to enjoy the reason for the loan (car, home, school, etc.). You absorb all the risk with very little benefit.
- You are responsible for the loan. Many cosigners are not aware of their responsibility when they cosign bridge loans. Let me make it clear—it is your loan. In the bank’s eyes, you are fully responsible for the loan’s payments and payoff. In the bank’s eyes, you and the other signer are one lendee. If something goes awry with the loan, you are on the hook just as much as your friend. Your name on the document means that they can come after your money too.
- Credit damage risk. As mentioned in the first point, cosigning a loan probably will not provide much improvement to your credit score. However, missed payments, or worse, default can destroy your credit. The desire to help can end up hurting your current and future financial health.
- You may be helping your friend (or family member) continue their bad financial habits. Your friend may need to hear “no” from the bank and you. Often, the “no” is a result of poor financial decisions. This may be the moment that they decide to get serious about their finances. And saying “yes” to them may only perpetuate bad money management.
- The risk of injuring a relationship. If something does go awry with the loan, tension between you and your friend will likely follow. Their poor financial decisions are now impacting your finances. And it is tough for a relationship to make it through this scenario without injury or abandonment.
Our friends at Zmarta Fi confirmed with us, when we were having this exact chat over a few beers – that cosigning a loan is best avoided. Most of the time, the downside far outweighs the upside. If you do cosign a loan, make sure you understand the ramifications. After all, it is your loan.
The situation is quite different if you want to make use of private money investors for real estate. They provide short-term loans for purchasing residential or commercial real estate. Private money lenders require borrowers to provide collateral, usually in the form of real estate. As you can see, no cosigner.