I asked my grandmother to co-sign on a car when I graduated from college. Instead of a signature, what I got back was a big-time lecture from Big Mama on the dangers of co-signing.
Decades later, I can feel the heat of her fury that I would ask to put her finances in jeopardy. I was reminded of her scolding — and her wisdom — while reading the latest report on student loans from the Consumer Financial Protection Bureau.
The report highlights complaints from borrowers that their private student loans, which don’t have the same protections as federal loans, were being declared in default because their co-signers had died or filed for bankruptcy. The lenders demanded the full balance of a loan even though the borrower was paying on time, the CFPB said.
How crazy is that? Someone is paying the loan as agreed. The co-signer dies or files for bankruptcy. Now the borrower is in financial trouble if he or she can’t come up with money to pay off the loan. That is why I don’t recommend co-signing.
About 90 percent of all private student loans were co-signed in 2011, most often by a parent or grandparent, according to the consumer watchdog agency. That’s up from 67 percent in 2008. Students are often required to get a co-signer if they have little or no credit history. Additionally, getting a co-signer can result in a lower interest rate.
But two major things happen when you co-sign. You also become the borrower, and you tie your credit history to the credit record of the person getting the loan.
You are wholly and equally responsible for the debt. Not half or some, but all of it. You are not a backup borrower. When you co-sign, you are agreeing to pay that debt in full if the primary borrower defaults or misses even just one payment.
And why wouldn’t lenders come after you right away? You were the reason they made the loan in the first place. You’re the one with better credit, or the borrower wouldn’t have needed you.
I get why parents and grandparents co-sign. They want to help a student get a college degree. So there’s lots of pressure to co-sign when students can’t get enough scholarships, grants or even less expensive federal loans to cover all the expenses. It’s family, right? But what happens if the student doesn’t finish college and can’t pay, or graduates and can’t land a job with enough salary to handle the payments?
The Federal Trade Commission offers good advice on what to expect and what to ask for if you are bent on co-signing. Go to www.ftc.gov and search for “Co-Signing a Loan.” For instance, make sure you are privy to information about the loan and you are allowed to follow the payment history. It’s your loan, too.
Here’s one thing to keep in mind. The same collection methods used for the primary borrower can be used to collect from you, including getting a court judgment to intercept some of your wages.
And although some states prohibit a creditor from collecting from a co-signer without first trying to collect from the primary debtor, you’re still on the hook. In Michigan, a creditor has to send a notice to the co-signer that a primary borrower has become delinquent or defaulted. But after getting the notice, the co-signer has only 30 days to arrange to pay off the debt or make payment arrangements. The good news is if you manage to get the creditor to accept a plan to pay off the loan, the lender can’t report damaging information to the credit bureaus.
The report from the CFPB revealed another cautionary tale on co-signing. Even when lenders advertise that they provide a release for a co-signer after the primary borrower makes a certain number of on-time payments or meets other criteria, they don’t make it easy to exercise this option.
“In particular, there may be requirements about meeting certain credit score thresholds, which the borrower may not be aware of, and also, they are not always codified in the contracts themselves,” said Rohit Chopra, the CFPB’s student-loan ombudsman during a conference call with reporters.
Nearly two-thirds of young adults have used a co-signer to obtain not just student loans, but credit cards, car leases and homes, according to a new survey from Experian Consumer Services.
Experian said most loans among the people they surveyed were in good standing, with about 8 percent rated bad because of late payments, missed payments or defaults. Such a figure may leave you thinking that the risk of co-signing isn’t too bad.
Well, it’s a big deal if you end up having to pay or your credit gets damaged.
Readers can write to Michelle Singletary c/o The Washington Post, 1150 15th St., N.W., Washington, D.C. 20071. Her e-mail address is firstname.lastname@example.org. Follow her on Twitter (@SingletaryM) or Facebook (facebook.com/MichelleSingletary). To read previous Color of Money columns, go to postbusiness.com.