What to consider before co-signing a loan

If you've got a twenty-something offspring, there's a good chance that he or she will come to you for a signature when attempting to establish credit. Two-thirds of Millennials have had a parent co-sign a loan or lease for them in the past, and three out of four say they may ask their parents to sign for them in the future, according to a recent survey by Experian Consumer Services.

Co-signing allows a person with poor or no credit to get a loan by putting another creditworthy borrower on the line. Unfortunately, co-signing can be a credit disaster for the co-signer, says Liz Pulliam Weston, author of "Your Credit Score."

Experian's survey highlights some of the reasons why. When the primary borrower was unable to pay as scheduled, 32 percent of co-signers made payments, 7 percent of co-signers took on 100% of the debt, 17 percent didn't know right away that the primary borrower was in trouble, which led to 12 percent of the co-signers experiencing negative credit consequences.

Weston adds that if the primary borrower can't pay, taking on the obligation is not a favor -- it's a responsibility. Co-signers are liable for the full amount of the debt.

If it's a credit card account, the primary borrower can even raise his credit limit, without notifying the co-signer. That puts you on the hook for an even bigger bill than what you bargained for. Worse, the co-signer often has no right to get account status information on co-signed accounts, leaving the co-signer at the mercy of the primary borrower's communication skills.

It's sometimes necessary for parents to help adult kids establish credit, says Becky Frost, Experian's senior manager of consumer education. So, she suggests that co-signers set up some rules before they agree to the arrangement.

Negotiate terms with the lender -- and the primary borrower -- that give you access to account information and that bar additional credit being extended without your knowledge. If the lender refuses to curb new credit on a co-signed loan, find another lender.

Also set up clear terms with the primary borrower (presumably your child). Frost suggests that parents have the child sign an informal contract, spelling out how payments will be made and how credit problems will be handled if any arise.

However, an even better idea may be to help a child establish credit in another way, Weston says. You can make your child an authorized user on a credit card account that you control. Once a child's name is added to your account, the lender will report your payments on the child's credit report (as well as yours), helping her establish a credit history.

Authorized users can spend up to your credit limit, however. So, set guidelines on what spending is OK and what's not. It also might be smart to add the child to an account that has a relatively low limit.

Going to college presents another way for kids to establish credit, by taking out a student loan, Frost adds. Even if the parents have enough to pay college tuition completely, the child might want to take out and repay a small student loan just to establish credit in his own name.