The Co-Signing Conundrum

Question of the week:Our son is fresh out of college, has just started working, and needs a car. He's asked us to co-sign a car loan for him. While we really want to help out, we've heard some horror stories about co-signing loans. What would you do in our shoes? --Milwaukee Dad

Dear Milwaukee,

Like most issues having to do with money and families, co-signing a loan for a relative presents a lot of sticky issues. To get some perspective, we recently asked members of the Armchair Millionaire community about their experiences as co-signers. We heard both the good and the bad:

"I co-signed a loan for my brother on a motorcycle with the understanding that if he didn't make the payment I got the bike. It worked out just fine. He made all the payments and now has the start of a good credit history." --David

"I co-signed for an apartment for my son. When he stopped paying the rent the landlord didn't even bother to let me know, just filed suit and piled on a bunch of phony fees, knowing that I was good for it. Creeps!" --Merle S.

The most important thing to know about co-signing is that it's really no different than getting your own loan. You will be just as responsible for paying off the loan as the primary borrower. That means if your son doesn't pay, the lender will expect you to make the payments. The loan will also become part of your credit history.

To make a good decision, you really need to separate emotions from facts. My guide will help.

The Armchair Millionaire Guide to the Co-Signing Decision

• Consider why the borrower wants you to co-sign the loan. Chances are it's because they've been turned down by a commercial lender, meaning they're probably not a great credit risk. This means you shouldn't co-sign unless you are willing (and able) to take over all the payments yourself.
• Look at the borrower realistically. Do they have a job that pays enough to enable them to make the loan payments? Have they been responsible with money in the past? Have they paid you back when you've loaned them money in the past? If they have a poor track record of managing their money, co-signing a loan for them isn't going to change that.
• Understand how it may reduce your ability to borrow. Since a cosigned loan is your responsibility, banks and mortgage companies will include the loan amount as part of your overall debt when considering making a loan to you. If you plan on taking out a loan yourself anytime soon, take this into account.
• Be aware of the worst-case scenario. If the primary borrower doesn't pay, you'll have to. You'll also be liable for late fees and collection costs. If you put up your own property to secure the loan and the borrow defaults, you could lose that property. And in some states, the lender can try to collect the debt from you before it even tries to collect from the primary borrower.
• Balance out the negative with the positive. All is not bad with co-signing. It allows you to help out your child by giving them a chance to establish their own credit history, making it easier for them to get a loan the next time. But such upsides should be seriously weighed against the many pitfalls.

THE BOTTOM LINE: Even though you may be willing to take full responsibility for the loan, doing so may put serious strain on your relationship with the primary borrower. At the end of the day, money is always less important than the relationships in your life. If in doubt, err on the side of keeping those relationships.

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