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How does cosigning work?

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Qualifying for a loan or a credit card can be difficult if you have a small income or are working on improving your credit history and credit score.  Applying with a cosigner is one way to increase your chances of getting approved for financing.

Whether you need a cosigner or you’re considering becoming one for someone else, it’s important to understand how cosigning works and the responsibilities that come with it.

Here’s what we’re going to cover:

  • What is a cosigner?
  • What is a cosigner responsible for?
  • Risks of being a cosigner
  • Benefits of being a cosigner
  • Can a cosigner be taken off a loan?
  • Applying with a cosigner
  • Oportun: Affordable personal loans, with or without cosigners

Key takeaways:

  • A cosigner is a person who adds their name to your financing application. When someone with good credit cosigns for you, it can increase your chances of getting approved for a loan.
  • The cosigner on your loan is agreeing to make the payments if you’re not able to. The cosigner doesn’t receive any money from the loan.
  • Cosigning a loan is a big commitment. Besides taking financial responsibility for loan payments, cosigners must provide proof of income and undergo a credit check.

What is a cosigner?

A cosigner is a person who adds their name to your loan application and agrees to make the payments if you do not. Having a cosigner with good credit can increase your chances of getting approved for a loan. The cosigner does not receive any of the money from your loan.

Your cosigner should have a high credit score, a low debt-to-income ratio, and a consistent income. These factors can strengthen your application. In some cases, having a cosigner can help you get lower interest rates or larger loan amounts.

What is a credit score?

Your credit score is a number between 300 and 850 that gives businesses an idea of how likely you are to repay a loan. The higher the number, the better.

What is a cosigner responsible for?

The person who cosigns your loan agrees to take financial responsibility for your payments if you don’t make them. Cosigning a loan is a big commitment, so you want to ask a person you trust to be your cosigner. Family members or close friends who have high credit scores are often good choices.

In addition to being responsible for your debt, your cosigner must:

Provide documents for the loan application

Cosigners undergo the same application process as borrowers. Your cosigner may need to provide documentation showing their income, employment, assets, and debts.

Undergo a hard credit inquiry

  • Cosigners also need to authorize a hard credit inquiry. This allows the lender to review their credit history and credit score. When a hard inquiry is made into someone’s credit, it can temporarily reduce their credit score by a few points.

Risks of being a cosigner

The biggest risk of being a cosigner is having to pay back the loan If the borrower doesn’t. There are several other consequences for the cosigner if the borrower fails to make payments on time.

A cosigner’s credit scores can take a hit

Any late or missed payments on a cosigned loan can bring down the credit scores of both the borrower and the cosigner. This information is listed in the credit histories of both parties and may affect their credit scores for up to seven years.

A cosigner may be contacted about bills sent to collections

If the loan is not paid back on time, it could be sent to collections after 90 to 120 days. In some states, collection agencies have the option to collect payment from cosigners even before they try to contact primary borrowers. Accounts sent to collections bring down the credit scores of both the borrower and the cosigner.

A cosigner may have to pay late fees and collection costs

By taking responsibility for payment of a loan, the cosigner is also agreeing to pay any late fees and collection costs associated with it.

A cosigner will have a higher debt-to-income ratio

Cosigning on a loan will increase the cosigner’s debt-to-income ratio as the loan amount is now considered part of the cosigner’s debt.

What is debt-to-income ratio?

Your debt-to-income ratio compares the amount of debt you have to the amount of money you earn. To find your DTI, divide your monthly debt payments by your monthly income before taxes.

Most lenders require applicants to have a debt-to-income ratio of 43 percent or less. If cosigning a loan brings your DTI higher than 43 percent, it may affect your ability to qualify for a credit card or a loan of your own.

Benefits of being a cosigner

Even with the risks involved, becoming a cosigner may be worthwhile under the right circumstances. Helping a friend or family member get the financing they need can be a rewarding experience for you.

There are two more possible benefits for you as a cosigner. If all the payments are made on time for a loan you have cosigned, that positive history can help increase your credit score. Plus, the loan may add diversity to your credit mix, which is also good for your credit.

Can a cosigner be taken off a loan?

Some lenders will allow you to remove a cosigner from a loan under certain circumstances.

If your credit score and income increase, you may be able to qualify for the loan without a cosigner. You can then ask to have the cosigner removed from the loan. If your lender agrees to this, the cosigner is released from their responsibilities.

Applying with a cosigner

Here’s how to apply for a loan with a cosigner.

1. Choose the right cosigner

The goal of having a cosigner is to make your financing application stronger. You can do this by choosing someone who has a high credit score and a positive credit history. Your cosigner should also earn enough money to afford your loan payments if you are unable to make them.

Once you’ve decided on a cosigner, you want to make sure they understand the responsibilities that come with cosigning. If the person you choose doesn’t feel comfortable taking on these financial duties, you can always find someone else who does.

2. Find the right lender

Next, find a lender who allows cosigning. Here are three questions to ask potential lenders.

  • Will my cosigner’s good credit help me get a better interest rate?
  • Can my cosigner ever be removed from the loan?
  • What are the requirements for removing a cosigner?

3. Submit your application

Now you can submit your loan application to the lender you’ve chosen. Remember that having a cosigner does not guarantee that your application will get approved.

If you are approved, both you and your cosigner will have to sign the loan contract and agree to its conditions. Then you can receive your financing and start making payments.

Don’t forget to thank your cosigner. The best way to show your appreciation is by making all your loan payments on time. This is important for your cosigner’s credit as well as for your own. By building a positive credit history, you may be able to qualify for a loan without a cosigner  in the future.

Oportun: Affordable lending options designed with you in mind

Now that you understand what a cosigner is, you can learn about how Oportun may be able to help you if you’re looking for affordable credit options. Visit our homepage to learn about:

  • Personal loans
  • Secured personal loans
  • Credit cards
  • Saving
  • Investing
  • And more!

Sources:

Consumer Financial Protection Bureau. What’s a credit inquiry?

Experian. When do late payments become delinquent?

Federal Trade Commission. Cosigning a loan FAQs

Investopedia. Debt-to-income (DTI) ratio: What’s good and how to calculate it

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