Things to know before co-signing

Co-signing for a car loan is a fairly common practice. Co-signing is when you add yourself to a friend or loved one's loan to offset their credit deficiencies to help them qualify for a car loan.

I get questions all the time about this practice and what the benefits and repercussions are of doing something like this. Let's talk about the different reasons for needing a co-signer, the risks and benefits.

The benefits for the person that needs the cosigner is obvious, it helps them get a loan they otherwise would not qualify for. Sometimes it's an income issue, others it's a credit issue. The benefit for the cosigner is usually just a social benefit, if that.

There is not usually an interest rate break for acquiring a cosigner, contrary to popular belief. If the customer needing a cosigner needs it for credit reasons, the cosigner usually just allows that person to buy a car. They do not get the person with good credit's rate. Sometimes this realization leads to shady dealers suggesting a "straw purchase" that puts the loan in the better credit person's name only, an illegal practice.

If the person needing a cosigner is a young child of the person cosigning, there is the possibility of a large interest rate break. This is dependent on the child not having much credit and not having bad credit. This is probably the single most beneficial way to use a cosigner and one of the few I would recommend.

The risks to a cosigner are fairly substantial. The cosigner is fully liable for the vehicle and the payments. If the person you are signing for doesn't pay, register the vehicle or pay for insurance, you are then required to do so. There can also be social problems if the relationship between the two parties degrades. It's a common situation to have a boyfriend co-sign for a girlfriend and vice versa. When these relationships do not work out, they will still have joint credit forcing that relationship to stay somewhat open. There is no way to remove someone from a loan without refinancing the loan completely, a situation that the person with bad credit will have a hard time accomplishing.

Think carefully about cosigning for another person, it's a situation that many people find they regret. A viable alternative is to help them out with the down payment instead. If helping them out with a down payment is not possible, consider the fact that you will be committing to a substantially greater amount than that down payment with the loan you are signing for.

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