Here’s a conundrum: In order to afford to go to college, many students have to take out loans. But in order to take out a loan, you usually have to have a solid credit history and proof of income, something that most college students don’t have. So how do students end this cycle, get their loans, and go to college? With the help of cosigners, for the most part.
According to a Consumer Financial Protection Bureau (CFPB), 90% of private student loans were cosigned in 2011, usually by a parent or grandparent. That insane number should illustrate not only how common this practice is, but also how the whole private student loan industry is propped up on the credit of third parties. Why are schools so expensive that they require huge loans that can’t actually be acquired by the students alone? Alas, that’s a question for another day.
Instead, let’s ask: does it actually make sense for parents and grandparents to be cosigning student loans? While many balk at the question — of course it makes sense, they’re my kids! — there are a lot of risks to cosigning loans.
Cosigning a loan means putting everything on the line
In an ideal world, your child makes every payment on time for as long as the loan is outstanding and you’re never called on to make a payment. Unfortunately, the world is not an ideal place. In the words of someone who doesn’t swear for ideological reasons: “Stuff happens.”
When you cosign a loan, you’re a “backup” for the lender. They’ll only go after you if your kid can’t pay up. Your kid may be the most responsible human being in the world, but things still happen that push our financial lives out of our control. For example, it’s hard out there for college graduates to find jobs. Are you willing to pay your child’s student loan payments while they’re unemployed? Not only that, but if they default — a worst case scenario — the lender has the right to come after you and just about everything you own in order to collect.
What, exactly, can the lender go after?
- Your paycheck — they have the right to garnish your wages.
- Social security — they can garnish your social security, too.
- Any collateral, including property like your home or car.
- Tax refunds (if they’re federal loans).
If your child defaults, it also affects your credit score — even if you keep up with payments. In fact, just signing the loan impacts your credit score. Many financial institutions will see that large debt on your credit score and count it against you when deciding whether to extend their services, even if you’re not actively responsible for the loan.
Cosigning can be dangerous for students, too
Student loans can last for a long time — at least a decade, if not longer. And many students don’t think about the fact that their parents or grandparents may not live to see to the end of that loan. While many assume that if their cosigner dies, it has no effect on the loan and releases the cosigner’s estate of any responsibility, that’s actually not that case. If a cosigner dies, the lender will sometimes put the loan into auto-default, even if the student is up-to-date with payments. If this happens, your child will have to deal with the emotional distress of your death along with the stress of near financial ruin.
There are alternatives to cosigning
Chief among them — choosing a cheaper school. Choosing a cheaper school can mean that your child won’t have to rely on private student loans to close the gap between their federal loans and the actual tuition cost.
Alternatively, it make more sense for your child to take some time off to build up their savings or get career experience. A lot can change once someone goes off into the real world to work, and your child may find that they don’t need or want to go to grad school anymore.
Your child should also be aggressively applying to any scholarship they can find. Scholarships can help reduce the need for loans. They can also be inspiring — they often require that your children maintain high grades.
If you still decide to cosign, make sure you protect yourself
There are two big things you need to if you’re going to cosign:
- Guarantee that you’ll be able to get a cosigner release in the future
- Buy life insurance on your child
Let’s tackle that first one. Many companies will allow you to get a cosigner release (meaning you are completely released from your duties as a cosigner). Sallie Mae has a publicly available list of the requirements you have to meet before they grant a cosigner release. Before cosigning a loan, ask your child’s lender for a similar list. If they don’t have one or don’t have an established process for granting releases, that should be a red flag.
The second one can be hard to talk about it, but it’s important. There are several very sad cases of parents stuck with massive debt after their child unexpectedly passed away. Don’t let this happen to you: take out a small life insurance policy on your child (that you pay for) that will provide enough money to fully pay off the student loan in case the worst happens. We have more information about what type of life insurance policy to look for here.