Let me offer the classic unsatisfying answer: It depends.
Before you offer your John Hancock you should understand the risks involved.
Just like any other financial decision, it’s best to try to do this without the emotion, drama and angst that can complicate a relationship. Easier said than done, I know.
But like your investments, you should do your own due diligence and follow your own values.
Sometimes it’s absolutely necessary to get a cosigner for a loan, credit card or apartment lease. The best terms are offered to those with the lowest credit risks. A credit card issuer, mortgage lender or landlord will rightly offer someone with an established good credit history and deeper pockets a whole lot better set of terms than a newly minted college grad or someone with a bunch of blemishes on their credit report.
I remember a favorite uncle of mine. He was single, very responsible with money, a great saver. He once went to buy a car but needed a younger nephew to consign for him for the auto loan because our uncle had no established credit. He had paid cash for everything all his life making him an invisible man to a loan underwriter.
I also remember once walking across campus and a friend stopping me as I passed the financial aid office. He asked me for a favor. He needed a cosigner for his student loan and it was my lucky day to be the guy to help him. Don’t worry about a thing, he told me. I’m good for it, he had said.
Luckily he was but that’s not always the case. The FTC reports that three out of four cosigners are asked to pay because the primary borrower hasn’t.
Know the Risks
There are risks in life and in every decision we make. It’s not a matter of avoiding all risks but managing them, understanding them. Don’t just think that you can walk away once you’re on the hook for the loan. Just because your signature may not appear first doesn’t mean that you won’t be the person they turn to collect the debt.
Landlords typically require a parent to cosign on an apartment for a child. They know if the kid skips or the keg party gets too wild that Mom and Dad will not want to risk their good credit and will be there to cover the bill.
Remember that each loan or credit card you have will have an impact on your own credit score. The payment history and amount utilized compared to the maximum line of credit can have a potential adverse impact on your own credit score.
And the amount of the debt will be counted as if it were your own. This may make it difficult or impossible to get a loan when you need one. I had a client who had cosigned for a car loan for her adult son. The son has made every payment on time. But when his mom applied for a home equity line of credit the car loan fixed payment was included in calculating the underwriter’s debt ratios. Combined with her other debts it was enough to push her over the maximum qualifying debt ratio allowed resulting in a loan decline.
Put Yourself in the Lender’s Shoes
If you treat this like an investment or a loan, you should be prepared to ask questions.
You should be asking the same sort of questions that any would. Why do they need the money? What’s the default risk? Can they afford the debt? How will they manage to pay it back?
Curb Your Enthusiasm … Set Limits
Like all financial decisions, consider the risk and find ways to limit it.
For a credit card you can request that the limit be set low so that the card can only be used for emergencies and not big ticket discretionary purchases that will leave you on the hook.
For apartment leases with roommates, make sure that all the parents are also listed on the lease so you’re not the only one that the landlord will call when there’s a problem.
For other large ticket items requiring a loan, consider being listed on the title for the car for example. If there is a default, you’ll have the right to sell the car.
At the very least you can ask to receive duplicate statements so that you can monitor that payments are being made as promised.
For larger loans like a mortgage, you may even want to consider offer your help in the form of an intra-family loan. There are services that will manage the payment processing so that it avoids getting ugly if there ever is a payment problem. Just remember that if you choose to lend a hand to someone to buy a home in this way, they will need to declare it on the application as a debt and they’ll have to qualify for the new loan with this payment as well.