Alternatives to Cosigning a Loan

When You Should Say No to Cosigning

You should never cosign on a loan if you think it will put your financial situation or credit at risk. As a cosigner, you agree to be responsible for someone else's debt, and the cosigned loan appears on your credit report. If the primary borrower pays late, their late payments can affect your credit score. And if they default on the loan entirely, the lender could sue them and you to recover funds. Loans you cosign for can also increase your debt-to-income ratio (DTI), which may affect your ability to qualify for your own loans if you decide to buy a car or house.

With these potential pitfalls in mind, here are instances when cosigning is a bad idea:

• Your loved one has a history of not being responsible with their money.
• You can't afford to assume payments if the primary borrower stops paying.
• You're about to apply for your own loan, like an auto loan or mortgage.
• You don't want to hurt your credit.

How to Say No to Cosigning

Declining to cosign a loan can be an awkward conversation, but it's worth the temporary discomfort if it means you'll be protecting your financial interests. Rather than detailing concerns you have about a loved one's ability to repay debt, a more sensitive approach to breaking the news could be explaining that it's not a good time for you to cosign because of other obligations.

Alternatives to Cosigning a Loan

If you want to help your family member get a loan but don't want to act as a cosigner, you could explore the following alternatives to support their financial needs.

Offer a Loan From Your Savings

Instead of cosigning, you could offer to lend your loved one money from your savings. Choose an amount that you're comfortable with lending, agree on a repayment term with the borrower and formalize a contract. Many loan contract template forms exist online, so you don't have to draw up an agreement from scratch.

Before lending money, however, it's important to consider the borrower's likelihood of repaying, how you would handle nonpayment and how having this type of financial arrangement might affect your relationship.

Take Out the Loan Yourself

Another alternative to cosigning could be taking out a loan for yourself and letting the family member use the funds. As the primary borrower, you would be the main payer and contact person for the loan, which could help you ensure loan payments are made on time.

However, this also means you assume sole responsibility for the debt since it's under your name. If you go this route, the loan should only be for a small amount with payments you can afford on your own in case the person you borrow money for doesn't provide cash to pay the bill.

Provide Collateral to Back Their Loan

Some lenders offer secured personal loans backed by savings in a bank account. If you have a healthy savings account, you could consider providing the collateral that secures the loan. Loans that require collateral can be easier to get approved for since lenders can take the funds when the borrower doesn't keep up with payments. While this means you could lose the collateral you fronted if the borrower defaults, it won't impact your credit since your name isn't on the loan. On-time payments on secured loans can also improve a borrower's credit so they can apply for unsecured loans in the future.

Pass on Good Credit Habits

Instructing loved ones on how to build credit is a way to pass on good credit habits that can help them get approved for loans without a cosigner. Consider walking them through the process of checking their credit reports with all three credit bureaus (Experian, TransUnion and Equifax) at AnnualCreditReport.com and discuss the factors that affect their credit scores, such as payment history, amounts owed and credit inquiries. They can also sign up for free credit monitoring with Experian to see their progress over time.

You could take this a step further by adding them as an authorized user on a credit card. As an authorized user, your on-time payments may appear in their credit report, which can help them build positive payment history. If you allow it, the authorized user will have their own card on your account, so be sure to set guidelines on how and when they can use the card to control account spending.

Cosigning a Loan Is a Major Decision

Depending on the term of a loan, cosigning is a financial commitment that could last several months or many years. If you decide cosigning is not the right move to make, you don't have to leave your loved one hanging. Helping them build credit or lending them cash are other ways to show support without putting your credit at risk.

Also, note that lenders have different eligibility requirements, and shopping around could help your loved one find a loan they might get approved for without a cosigner. Experian CreditMatch™ helps prospective borrowers review what personal loan and consolidation loan options might match their credit score.