It's not unusual for someone to ask family or friends for help in getting a loan. In the wake of the foreclosure crisis, banks are toughening their requirements for all types of loans. Borrowers must meet strict income and credit requirements, and many can't meet these requirements without some help.
Before agreeing to help someone get a loan, you should understand your obligations, and know what might happen if the person you're helping doesn't repay the loan.
Co-Signer or Co-Borrower?
Two terms describe a person who helps someone else get a loan: Co-signer and co-borrower.
A co-signer and co-borrower both:
- Use their good credit and income to help someone get a loan
- Are legally obligated to make the loan payments if the other borrower doesn't
- Can be sued by the lender if the other borrower doesn't make payments
- Can damage their credit history if the other borrower is late in making payments or misses payments entirely
However, there's one important difference: A co-borrower is listed on the title to the property bought with the loan money, like a car or a house. This means the co-borrower actually co-owns it. A co-signer isn't listed on the title. He has no legal claim to the property.
Be Prepared Before Getting the Loan
Before agreeing to co-sign or co-borrow a loan, write an agreement or contract between you and the other borrower. It should include details about:
- Who's responsible for making the payments
- How much and when payments are due and where they need to be paid
- What happens if one borrower doesn't make payments and the other borrower takes over payments. Will the first borrower sign over his ownership interest in the property to the co-borrower?
- If one borrower is relying on the co-borrower/co-signer for his credit history, will the loan be refinanced later to have co-signer/co-borrower taken off the loan?
- Who's responsible for paying the legal costs and fees if one borrower has to take legal action against the other
Talk to a lawyer if you need help writing the contract. She can help make sure all of your bases are covered.
What if Something Goes Wrong?
In the worst possible situation, the person you tried to help doesn't make payments on time, or at all. When this happens, the loan goes into default - the borrower didn't meet the loan obligations.
As a co-signor or co-borrower, you face serious consequences if the loan goes into default. You may:
- Be asked by the lender to pay what's owed on the loan
- Be sued by the lender, or have your wages garnished to pay off the loan
- Be responsible for late fees or collection costs charged by the lender
- Have the late or missing payments, or a court judgment against you, reported to the major credit bureaus. Your credit rating is damaged
To protect your credit history, make the necessary payments to get the loan out of default. Then, deal with the other borrower to fix the problem. Here's what you have to think about:
- Can the other borrower repay you for getting the loan out of default?
- Can the other borrower continue making payments? It may be better to sell the property and repay the loan to protect your credit
- If the other borrower can't make payments, you may want to take over payments and ownership of the property
- If you take over payments, or the other borrower can't repay what you spent to get out of default, ask him to sign his ownership interest over to you
- If you co-signed the loan and want to own the property, ask the lender about refinancing the loan to get your name on the property's title. You may have to buy the property from the other borrower or the bank
No one's saying it's a bad idea to help out a friend or family member. It's a good idea to know exactly what you're getting into before doing it, though.
Questions for Your Attorney
- Is it better to co-sign a loan or simply the lend money my friend needs?
- I was never told by the bank that my friend defaulted a loan I co-signed for him. Now the bank is suing me. What can I do?
- I co-signed a car loan for friend. He let his car insurance lapse and was in an accident. He's being sued by the other driver. Am I legally responsible for anything?