Wednesday, May 23, 2012

Why You Should Avoid Co-Signing on a Loan or Lease

Imagine your friend approaches you one day with an idea.  He has found a great deal on a car.  They have the terms hammered out, and now the dealer or bank just needs him to sign the finance documents.  Oh, and he needs someone else with decent credit to co-sign on the loan with him – you.  “It’s really just a technicality,” your friend says.  He assures you that he can easily afford the payments, and it’s 100% his responsibility.  What could go wrong? 

Well, your friend’s statement that the loan is 100% his responsibility is correct – that is unless he stops making the payments.  Then it becomes your responsibility.  All of it.  Under Alabama law, the lender can go after either your friend or you for the money, and it sounds like your buddy’s fresh out of cash.  If you’re lucky, the bank repossesses the car from your friend and everyone goes their separate ways.  In this case, your credit may be trashed, which is no small thing, but you may not be out any money.  If you’re unlucky, the bank sends you a letter informing you of their expectation that you pick up the payments.  In that case, your credit is still trashed and you have a new liability to squeeze into your budget. 

The same situation can arise in an apartment or house rental situation.  Often, a landlord may be uncomfortable with a particular prospective tenant, so he requires another person, with better credit or employment, to co-sign on the lease.  The landlord is not getting the co-signor on board as a character reference for the tenant.  He’s getting another source to go to for money when problems arise.  The co-signor is, in a way, acting as the collateral to the landlord, bearing all of the risk, but enjoying none of the benefit. 

While there are unique situations where it may be acceptable to co-sign on a loan or lease (i.e. for your twenty year old college student’s apartment lease), make sure that you are aware of the risks associated with doing so, and never assume that anybody is “too responsible” to default on their obligation.

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