Loan guarantors must be careful about who they co-sign for

Loan guarantors should avoid co-signing as much as possible – it could save them heartaches later

By: Hitesh Khan/

Do you have a relative or friend who has asked you to be loan guarantors? Even if that person says he or she fully intends to pay back the loan you are better off staying out of their financial business.

Loan guarantors or co-signers to personal loans is a third party in the loan contract. In the event of a default by the borrower the co-signer is legally obliged to repay the loan. So, if your credit scores are in the “fair” range, adding a guarantor with stronger credit and income can increase your chances of approval. But you should have an honest conversation with the prospective guarantor so they fully understand the risks before agreeing.

More often than not, you might feel compelled to sign on the dotted line out of a sense of helpfulness or loyalty. However, when it comes to such a major financial undertaking, you will have to adopt an impersonal stance. You must find out why the borrower needs a co-signer. If it is because he has a poor credit history, you should be wary about co-signing because if he is delinquent in his payment you will be liable for it.

Here are 5 reasons why you should avoid being loan guarantors:

1. When you co-sign you are agreeing to be responsible for the loan. Let’s say your sister takes out a personal loan and you co-sign. She’s able to make the monthly loan payments for six months, then loses her job. She no longer has an income and you are now responsible for making the payments whether you not you can afford them.
2. Your credit rating can be damaged. When the actual borrower stops making the payments, you must take over or you will take a hit to your credit score. If neither of you pays on the loan, the lender is more likely to come after you if it appears that they have a better chance of collecting on the debt. No one wants to be harassed by bill collectors, especially for debt they aren’t even responsible for accumulating.
3. Any adult who needs a co-signer probably already has problems with their credit. Otherwise, why would that person need a co-signer in the first place? If you are seriously considering co-signing, get the lowdown on the person’s financial situation first. You need to know if they have already defaulted on any loans and what type of income they have to pay back their obligation, among things.
4. Co-signing for a a young adult usually means you’re agreeing to pay the bills. Most teens don’t have much of an income, even if they work a part-time job. It’s unrealistic to expect a teen to be able to pay back a large loan. Also, if a young adult who isn’t that responsible misses loan payments, you may not know it until things really get out of control. Even if you want to help your teen take out a student loan, do it with the understanding that you may end up paying the bills, especially if your kid has trouble finding a job after graduation.
5. Avoid co-signing loans as it might ruin your relationship with your friend or family member. You may think your bonds can withstand any test, but it’s not uncommon for relationships to end over disagreements about money. Avoid co-signing loans unless you are truly OK with the possibility that your friend will fail to honour on the loan and stick you with the payments.

If you really want to help your family member, there are ways to do that even after you avoid being loan guarantors.

You could loan that person money yourself, but only do this if you are OK with the possibility of not getting that money back. Another alternative is to just give them a gift of cash if you can afford it. That way there are no strings attached and your relationship won’t be put in jeopardy.

As the person who asks you to co-sign is often a close friend or relative you trust, you may believe that he will make his repayment on time so you have no worries. Consequently, you gloss over difficult to understand terms in the contract, please do not run this risk.

Be mindful that nearly all small business loans or personal loans allow the bank to “call” the loan due if the bank feels that repayment is seriously threatened. If you’re uneasy about the subordinate language, consult a legal or financial professional to read over the loan paperwork.

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