Overview

The risks of co-signing a student loan are substantial enough that you may want to think twice before agreeing to “help out” a friend or loved one with your signature.  You’re not just vouching for the person as a reference, you’re taking on their debt obligation if they fail to repay the loan.

Why Students Need Co-Signers

Many federal student loans are available to enrolled students without consideration of their credit history.  As long as they aren’t carrying student loans that are in a default status, they’re eligible to borrow.  However, these student loans are often inadequate to meet the educational and living expenses of the student.  In many cases, the student may consider looking for additional financing.

Those non-guaranteed loans may require a co-signer.  Even if they don’t, there may be a significant advantage in terms of the interest rate on the loan if the student secures a co-signer with a good credit history.  Sallie Mae summarizes the situations in which a student may want to look for a co-signer:

If you do not have an established credit history and are applying for a credit-based private student loan (such as the Sallie Mae Smart Option Student Loan) applying with a cosigner may help you get approved.

Applying with a creditworthy cosigner may help you qualify for a lower interest rate.

That explains why you might be called upon as a potential co-signer.  The question is whether you really want to sign those papers.  Making that determination requires an assessment of the risks of co-signing a student loan.

Understanding the Risks of Co-Signing a Student Loan

The StudentLoanNetwork explains the role of a co-signer with respect to student loans like this:

A cosigner is an individual who agrees to take responsibility for the loan debt if the borrower is not able to pay. They cannot use the line of credit, however their credit score is affected by the loan.

In other words, if you co-sign for a student loan, you’re taking on responsibility for the debt if the borrower fails to make his or her payments.  You’re not just providing a reference, you’re basically serving as security on the loan.  The lender knows that they can come after you instead of losing money due to a default.

That’s the most obvious of the risks of co-signing a student loan.  There are others.

For instance, the loan will be considered in any calculations of your personal debt to income ratio.  It’s going to boost your debt total, which could have a negative impact on your ability to secure a loan for yourself, if the need should arise.

Additionally, you’re not just responsible for the loan amount.  If the borrower fails to meet his or her obligations, you’ll be saddled with any and all interest, late fees and service charges.  Those numbers can really add up by the time a lender gives up on the primary borrower and contacts you about making the payments.

Should You Co-Sign for a Student Loan?

From a strictly financial standpoint, it’s obvious that the risks of co-signing a student loan dejustifies the practice.  There are no advantages to you in one of these arrangements, but you are exposing yourself to a potential negative immediate impact (a drop in your credit score) and a potential long-term burden.

We don’t always make decisions based on the numbers, though.  If a loved one has no other credible way to complete his or her education, you may be tempted to co-sign.  This is particularly true when the student involves happens to be one of your children!  Thus, in some cases it’s fine to sign on the dotted line, in spite of the risks of co-signing for a student loan.

However, anyone who does co-sign should be very selective (a child is one thing, the girl you met on Spring Break is another) about who they’ll assist.  Additionally, co-signers should know that they’re able to handle the obligation in a worst case scenario.