Never, Never, Never Co-Sign

Never, Never, Never Co-Sign

 

A couple of times each year I am asked by one of our clients what I think of he and his wife co-signing for a son or daughter to buy a car, a boat, pay for vacation (fill in the blanks).  My advice has consistently been never, never, never co-sign.  While the child might be upset with you for a week or two because you refused, their disappointment should soon fade, and if it doesn’t, do you really want your relationship with your child to be based upon how much you can loan to them or secure a loan for them from some third party?

 

The alternative that I sometimes suggest is that the client actually loan the money to their child and take back a security interest in the article purchased.  For example, if they purchase an automobile, which is a frequent item involved in these transactions, you can retain the title with an endorsed lien so that if your child does not continue to make the payments you have the right to “foreclose” and take the vehicle back and sell it to satisfy their obligation to you.  But this advice applies only if you have enough money to loan to your child or friend. If your resources are limited, it is best to return to my original point of never, never, never co-signing or loaning money that you can’t afford to lose to a child.  If you choose to take the route of loaning money to a child, you can always get it back upon death.  No, I don’t mean your child’s death.  I mean yours.  Just revise your Will to take into account that any amount received by that child upon your death will be reduced by the amount loaned and unrepaid.

 

But before I leave this subject, let’s return to the basic premises of never, never, never co-signing for a loan.  At first blush, you might think the only exposure you have on the loan is the principal outstanding, and you might also think that you will never have to pay this since there is little possibility that your child or best friend would default on the loan, especially in view of the fact that you will be left on the hook.  Actually, you would be wrong on both counts.  To begin with, when your friend or child borrows money, their loan may be based on their credit score and, as a consequence, at a higher interest rate than if the loan was in your name.  As a consequence, if you get stuck paying the bill it could be more costly than if you borrowed the money yourself.  Second, if your child or friend defaults on the loan, you may not realize that a default has even occurred.  I have had situations where a car or other piece of property has been repossessed and sold at auction before the co-signor is even aware of the default.  Since your credit rating and credit score, which is the basis for all of your financial transactions in the future, is impacted by this default whether or not you actually defaulted, your credit score may be impacted which will result in any future loans that you want to secure costing you untold dollars in additional interest.  In addition, a recent study by the Federal Trade Commission concluded a shocking 75%, or 3 out of 4 of all sponsoring co-signors, wind up paying the loan off themselves.  After the security is sold, the creditor will most likely pursue you first rather than the person for whom you co-signed.  Why you may ask?  Because you are the one with the stronger credit.  You are the one with assets.  You are the one with bank accounts.  That is why you were asked to be a co-signor.  You have assets and/or income that the lender can pursue.  He is not being evil, he is simply being practical and protecting either his members in the event of a credit union or his investors in the case of a bank or commercial credit company.

 

Finally, there is the issue of treating your other children unfairly.  We have encountered situations where school loans were guaranteed or co-signed by the parent.  The parent dies and the children seek to conclude the estate only to find that there is claim against the deceased parent’s assets for loan guarantees still outstanding for a loan to one of the children.  As a consequence in some instances, this can result in as much as all of the assets of the estate being consumed by these outstanding obligations with no hope of repayment or rebalancing by the child who received the original loan proceeds.

 

So take my advice and never, never, never co-sign for a loan.  Unless, of course, the offer is made by your friend Vito, and Vito makes you an offer you can’t refuse.

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