In 2015, Vikram Shah residing in Mumbai co-signed a home loanbank documents as a good deed to help his friend Manoj Rao in purchasing a flat in Pune. Rao borrowed Rs 40 lakhs as a home loan from the bank at that time. Last year, Rao lost his job and this led to a default on his repayment towards home loan EMIs. Due to this Shah who became a co-signer on this loan, was burdened to repay it.
Gaurav Chopra, Founder & CEO, IndiaLends says, “Any defaults that occur on your co-signee’s loan, are treated as your own defaults. Also, as soon as you put your initials on the bank documents and become a co-signer on the loan, your debt to income ratio increases immediately.”
So, before you plan to sign on bank’s loan application form as a co-signer here are key things you need to know.
What does it mean to be a co-signer for a loan?
A co-signer isn’t particularly entitled to any benefit and does not enjoy the right to directly use the loan amount as such. Aditya Kumar, Founder & CEO Qbera.com says, “In a majority of cases, a co-signer is required to have an impressive credit profile – a good credit score along with a long credit history.”
Nowadays, in order to increase loan security, lenders often make it mandatory to have a co-signer on most loan products. This generally occurs with big-ticket loans where the credit profile of a loan-seeking candidate isn’t satisfactory to meet the proposed financial obligations. So, a co-signer, also known as a guarantor, pledges complete repayment of a loan in accordance with the loan terms set by the lender.
Anuj Kacker, COO & Co-Founder, MoneyTap cautions, “After a delay in repayment, the co-signer is required to repay the outstanding amount as mandated completely. A failure to do so invites legal ramifications, loan recovery measures and a downgrade of credit rating.”
It’s important you understand the terms and conditions of a loan and your liabilities before signing up as a co-signer even if a borrower is a relative or close friend.
Loans which you should never co-sign
Some loans you should never co-sign are big-ticket loans such as home loans, car loans and property loans. Kumar clarifies, “Simply owing to the fact that repayment amounts are usually high, tenures are longer than normal loans, interest liabilities are massive, defaults come with a significant legal cost with these big-ticket loans.”
Imagine working hard to repay somebody else’s mortgage when the property isn’t even registered in your name – the financial burden would be painful at the very least.
Make sure you enact due diligence before co-signing on a personal loan. Naveen Kukreja, CEO and Co-founder, Paisabazaar.com adds, “These are unsecured loans and one of the most expensive credit options involving high interest rates ranging from 10.75-24 percent per annum.” So, any such defaults by a borrower will increase the repayment burden.
Chopra says, “You should even refrain from signing on education and business loans.” It’s because timely repayment of student education loan depends on borrower landing a decent job offer after completing his/her studies. Similarly, repayment of business loan depends if the business takes off smoothly and the borrower is able to pay regular EMIs from the income.
When you shouldn’t be a co-signer?
Kukreja says, “Avoid co-signing the loan if you have variable income, multiple financial commitments, or your credit score is not good enough.” This may further strain your finances and can also lead to the borrower’s loan getting rejected.
Ways to protect yourself as a co-signer
i. Keep track of the loan
Navin Chandani, Chief Business Development Officer, BankBazaar.com suggests, “Meet with the borrower and have a casual discussion on the loan account’s (repayment) progress every few months.” This way you can find if the borrower is making payments on time or not, allowing you to offset future complications. However, do avoid the urge to micromanage as it can cause a rift in your relations.
ii. Establish an exit strategy
Chandani says, “Twelve months is sufficient timeframe for the borrower to establish credibility with the lender and build a credit score enough to refinance the existing loan without a co-signer.” At this point, you can ask the existing lender if they will release you as the co-signer from the loan agreement.