Most students applying for student loans are not likely to have any credit history. While this does not affect their ability to apply for and get federal student loans, it can pose a problem when applying for private student loans.
Private lenders are understandably more apprehensive about lending money to unknown entities. Without any credit history to check, they cannot gauge the applicant’s financial habits. What if the applicant turns out to be one of those dreaded unreliable borrowers? Dealing with unreliable borrowers can be a nightmare for private lenders and can cost them a whole lot of time and money to collect their dues. Instead of going through the hassle, they prefer to reject the application.
The only solution for a student without a credit history to get approved for a private student loan is to get a co-signer. Getting a co-signer also helps students get lower interest rates on their private student loans.
The first person most students will ask to cosign their loan is their parents. While seemingly a fair request, there are a few risks associated with cosigning a loan. Agreeing to cosign without understanding the accompanying risks can create major problems for you down the road. In a worst-case scenario, you could even lose your home and your life’s savings.
To avoid compromising your financial health, you must understand the risks of cosigning a loan with a student.
A Co-Signer Is Treated As A Co-Borrower
Most people do not realize the full repercussions of cosigning a student loan. The fact is, you are not just a ‘namesake’ cosigner. When you cosign, the loaner considers you as a co-borrower. Even though you are actually not borrowing the money yourself, it is reflected on your credit reports as a loan you have taken. It also means you have the same responsibilities and obligations in regards to repaying the debt.
This has several implications.
For one thing, it can make it more difficult for you to get approved for any other loan. Other loaners take into account the loan you cosigned when calculating your income to debt ratio. Are you planning on taking a loan to buy a house or a car? Then you must give serious thought to whether or not you should cosign the loan and put off your own personal plans.
Secondly, it can have a serious effect on your credit history. If the person you cosigned for defaults on a loan or makes a late payment, both your and the students’ credit scores report it as a default or delinquency.
Even one late payment can hurt your otherwise stellar credit history.
Your Loan Obligation Goes Beyond the Amount Borrowed
After weighing the pros and cons, if you decide that to go ahead and cosign the loan, it is important to consider this. The amount that any student ends up paying back will be several times higher than the amount they borrowed. The total loan amount can increase even more in the case of late payments. Or, if the student decides to opt for deferment or forbearance.
Irrespective of the reasons, the increased loan payment becomes your responsibility and increases your overall debt. Cosigners must pay back the entire debt, including amount borrowed, interest accrued during repayment, and all other fees incurred during that time if there is a problem. Once you co-sign, you are responsible for all payments till the loan is repaid in full.
It’s Very Difficult to Remove Yourself From the Loan
Many people agree to cosign, thinking they will simply get their name removed from the application at some later time. This could be a big mistake. Although in theory, you can remove your name as a cosigner, it is not easy. The process of getting your name removed as a cosigner can be incredibly difficult and in some cases impossible.
Before you sign as a cosigner, read through the lender’s terms and conditions carefully. Pay careful attention to what your obligations are as a cosigner. Look for any provision about removing your name at a later date. If you do not understand something, make it a point to ask and get the necessary clarifications. You don’t want any wrong assumptions about what you can and cannot do as a cosigner.
If The Borrower Is Financially Irresponsible, The Lender Will Come Looking For You
It does not matter who requests you to cosign their private student loan, if that person has a history of making bad financial decisions or finds it difficult to save any money and is always borrowing, you must think long and hard about whether or not you want to take any of the
risks of cosigning a loan. Anyone who asks you to cosign must first prove that they are dependable and worthy of your trust. You do not want any lender to come looking for you to repay a loan because the actual borrower has reneged on their obligation.
These Tips Will Help You Protect Your Credit
Before you agree to cosign a student loan, consider these tips to protect your credit history.
- Do not agree to cosign before understanding the full extent of your obligation.
- Understand that the amount you will be eventually responsible for is going to be much higher than the amount you are signing for.
- Do not agree to cosign if your finances are limited or if you need to use your savings to fund a large purchase in the near future.
- Read and understand the lender’s terms and conditions thoroughly.
- Check for yourself that the student has exhausted all other avenues for scholarships, grants, and federal financial aid.
- Encourage the student to look for another college that offers the program they are interested in but with a much lower cost of education. It is far better to graduate with lesser debt than to compromise your financial future along with theirs.
Last but not least, stay on top of the student loan payments. Check that all payments are being made on time. Ask to be notified as each payment is made so you can keep track of them and intervene if necessary to prevent any serious damage to your credit score.
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