For student loan borrowers, refinancing is one of the few ways to save on their debt. Not only can borrowers receive a lower interest rate if approved, they may also be able to adjust their repayment terms to better fit their financial situations. In order for refinancing to become a legitimate option, however, many borrowers must enlist the assistance of a cosigner. This is especially true for borrowers with poor credit, high debt-to-income ratios, or minimal or unsteady income.
If you’ve recently been asked to cosign for someone looking to refinance their student loans, you may be eager to help a friend or family member in need, but as with most financial decisions, it’s also important to determine how becoming a cosigner can impact you and/or your family. In our research, we have found that many parents did not fully understand the impact of cosigning before doing so. You definitely don’t want to blindly put yourself into a huge financial commitment.
Not sure if cosigning is right for you? Here are a few tips on how to decide if you should cosign on a student loan refinance.
Do You Trust the Person?
Let’s just cut to the chase: Do you trust the person asking for your signature? Are they trustworthy or do they have a knack for deception? Do they have track records of fulfilling their obligations, even those outside of the financial realm? Being close to the borrower isn’t, nor should it be, the only consideration. An inability to meet obligations, hold a job, attend class, or pay basic bills on time can all act as signs that a borrower is irresponsible and may struggle to repay their refinanced student debt – leaving you liable. Additionally, in order to build trust, the borrower should be able to share with you a concrete plan for repayment, including how payments will be made should his or her primary income source fails to cover the required payment.
Are You Able and Willing to Pay the Loan?
Even the most responsible and trustworthy of us can fall victim to life’s challenges now and then. The same is true for the primary borrower. If something happens and the primary borrower absolutely cannot cover the payment, then it will be up to you to step in. Before you enter into any cosigner agreement, you should have a clear idea of what the monthly payments will be. Once you have that information, you’ll need to factor it into your current financial calculations and ask yourself one major question: Can I afford it? If so, can I afford it for a significant period of time. If your budget can accommodate the payments and do so without putting you and your family under significant financial strain, then you may be able to move forward as a cosigner. If not, then this commitment may not be a wise one, no matter how much you’d like to help.
Do You Meet the Lender's Requirements?
Becoming a cosigner isn’t a decision left totally up to you. The lender will have to determine if you represent a good candidate. What makes a good candidate? There are a variety of factors, but generally speaking, a lender will look at your credit score, current income, and debt-to-income ratio. Though lender requirements vary, most lenders look for cosigners with credit scores at or above 700, with some scores as low as 650. In addition to a good credit score, you will be expected to have a relatively low debt-to-income ratio (under 40 percent) and a regular income.
Does the Loan Offer a Cosigner Release?
As honorable as an act it may be, playing the role of cosigner is not likely a part you want to play for the duration of the loan. In many cases, lenders offer cosigners the opportunity to bow out once certain requirements have been met. In some cases, this is after a series of payments are made on time. Before you sign, take the time to review the lenders cosigner release policy
Can You Afford the Impact on Your Credit?
The financial obligation is not one that is limited to your bank account. Instead, cosigning a loan can have serious consequences for your credit score, a factor that can have wide-reaching implications on your future purchases or financial needs, including home, automobile, and personal loans. If a borrower is habitually late on payments or enters into deferment, your credit score could suffer. Similarly, the added debt will impact your debt-to-income ratio. If you anticipate the need for a loan or other financial situation that will call your credit into play, then you will need to seriously consider how becoming a cosigner can impact that need.
Becoming a cosigner on a student loan refinance can help a loved one or close friend make their current situation a lot easier, but with that benefit also comes risks, many of which can have a significant impact on your financial life. Use caution when entering into a cosigner agreement, and ask yourself if cosigning on a student loan refinance will harm you.