Opting out as a co-signer may allow friends or family members who may not be eligible for financing to own the vehicle. But co-signing comes with risks. Because you are equally legally responsible for the loan, it is important to protect yourself and your finances.
4 Ways to Protect Yourself as a Co-Signer
If you decide to co-sign a future auto loan, consider these factors to ensure your financial security.
1. Co-signer only as a close friend or relative
The biggest risk that comes with being a co-signer on a loan is that your credit score is in jeopardy. It is wise to only help friends or family members you trust. This should be someone with a stable income and financial stability. Just opt out only if you are sure the primary borrower will pay but is ineligible due to lack of financial history or age.
2. Make sure your name appears on the vehicle name
The co-signer does not own the vehicle. This means that what matters is your name on the loan agreement. If you don’t put your name on the title, you may not have legal title to the vehicle, but you may need to pay. Confirm that the title identifies the primary owner and yourself. This way the vehicle cannot be sold without the signatures of both parties.
3. Create a contract
While you’ll both be signing the loan yourself, a separate contract outlining what you can expect from your primary borrower can serve as an extra layer of protection and remind you of the strictness of the agreement. This contract doesn’t have to be complicated. Just a promissory note outlining the costs, obligations, and what a default would mean for both parties. After both parties agree, it is handed over to a notary for finalization.
4. Track monthly payments
One way to gain more confidence in your primary borrower’s ability to pay is to keep an eye on your monthly repayment schedule. This can be as simple as setting a calendar reminder to check their spending. While this may feel uncomfortable, keep in mind that your credit is at risk. Just connect and open a conversation to check on your friends or family without having to manage loans in detail.
How co-signing a car loan affects your credit score
The risks of co-signing a car loan are simple, but they can be serious. If the person you co-sign doesn’t pay, your credit could take a serious hit and you’ll be behind on your payments. But there are also potential benefits:
- Credit Portfolio: Depending on your current open credit accounts, adding a car loan to your credit report may improve what you call your credit portfolio. Your credit portfolio makes up 10% of your FICO credit score.
- Payment History: Just as your score could drop if your primary borrower doesn’t pay on time, it’s possible (though to a much lesser extent) to benefit from their continued on-time payments.
Becoming a co-signer is a major financial decision that can lead to interpersonal or financial problems. But for many people, owning a car makes all the difference. So, if you want to be a co-signer, take the necessary steps to protect yourself. Finally, in the worst-case scenario of loan default, make sure you can afford to repay the loan.