Be cautious when loved ones ask you to cosign a loan

Lenders often require co-signers on loans when either the borrower doesn’t have much of a credit history, or if the lender has concern that the borrower doesn’t appear capable of independently repaying the loan. This situation arises especially between parents and young adult children, and may relate to the purchase of a car, setting up a credit card account or private student loans. 

If you are asked to cosign on a loan, whether by a family member or someone else, what criteria should you use in making a decision? The first thing to recognize is that when you cosign on a loan, you are taking legal and moral responsibility to repay the loan in the event the original borrower defaults. While this seems to be common sense, there are many people who have cosigned on loans assuming that it would never cost them anything and found that was a big mistake. 

Using caution

Scripture is clear that we should have a cautious attitude toward debt. It’s especially clear on the subject of cosigning. Here is what Proverbs 22:26-27 says: “Be not one of those who give pledges, who become surety for debts. If you have nothing with which to pay, why should your bed be taken from under you?” 

An even more forceful warning is given in Proverbs 6:1-5: “My son, if you have become surety for your neighbor, have given your pledge for a stranger; if you are snared in the utterance of your lips, caught in the words of your mouth; then do this, my son, and save yourself, for you have come into your neighbor’s power: go, hasten, and importune your neighbor. Give your eyes no sleep and your eyelids no slumber; save yourself like a gazelle from the hunter, like a bird from the hand of the fowler.” 

This doesn’t mean cosigning is sinful, but that you should be aware of potential consequences. Here are some criteria you can use if someone asks you to cosign on a loan.

Guidelines to cosign

First, don’t even consider cosigning if you don’t have the excess resources available in the event you need to take over repayment of the loan. If you don’t have adequate savings and investments set aside to fulfill your future responsibilities, especially funding your retirement, then you have no business cosigning on a loan. 

Second, assess whether the borrowing is a productive or unproductive use of debt. Borrowing at prudent levels for an appreciating or income-producing asset can be productive. Borrowing to purchase a depreciating asset or to pay for general expenses is unproductive. If the borrowing is unproductive, cosigning should be a non-starter. 

Third, take into account your knowledge of the person asking you to cosign. Remember that the lender has already concluded they aren’t confident enough to issue a loan without a cosigner. What do you know about the person that gives you confidence they will take this debt obligation seriously? 

One area where cosigning is becoming a larger problem revolves around private student loans. According to the Federal Reserve Bank of New York, 2.2 million Americans who were 60 or older owed $43 billion in federal and private student loans as of March 31, 2012, an increase of 186 percent from $15 billion in 2007. With the escalating cost of college, it’s natural that parents and grandparents want to help their children and grandchildren. The problem is that student loans often run into the multiple tens of thousands of dollars, and sometimes into six figures. As mentioned above, unless parents and grandparents have excess resources, cosigning on these loans sets in motion a potential financial catastrophe. 

If you are asked to cosign on a loan, make sure to assess the situation through the lens of caution Scripture emphasizes. God love you! 

Phil Lenahan is the president of Veritas Financial Ministries (VeritasFinancialMinistries.com) and the author of “7 Steps to Becoming Financially Free” (OSV, $19.95). Submit questions for columns to askphil@osv.com.