Consumers who do not qualify for the loans they need due to poor credit or a low income often seek the help of a co-signer. A co-signer is an individual with the credit and income necessary to meet the bank's qualifications that "guarantees" the loan to the bank. If the borrower defaults and stops making payments, the co-signer is responsible for repaying the loan. All aspects of a loan impact the cosigner---including the borrower's decision to settle the debt.
Debt Settlement
If the borrower can no longer afford his loan payments, he has the option of contacting his lender and attempting to negotiate a settlement. If the lender agrees, the borrower pays part of the outstanding balance and walks away free of any further obligations to the lender.
A lender isn't likely to accept a settlement from a borrower if there is a co-signer present on the account. The lender knows it can pursue the co-signer for payment and the co-signer will likely pay the debt in an effort to preserve her good credit rating. If a lender does accept the borrower's offer, it can still pursue the co-signer for any balance that remains after the borrower's settlement.
Legal Liability
Even though the co-signer did not benefit from the loan, the debt is just as much his responsibility as the borrower's. If the co-signer cannot or will not pay it, the lender can take legal action against him in order to seize his assets and garnish his wages.
According to the Federal Trade Commission, most states' laws allow lenders to initiate collection activity against a co-signer before trying to recover the debt from the borrower herself. Thus, a lender has the right to simply turn down the borrower's settlement proposals and immediately begin pursuing the co-signer for payment.
Credit Damage
The loan appears on both the borrower's and the co-signer's credit reports. Because of this, any information the lender reports to the credit bureaus about the loan impacts both parties' credit scores. Even if the borrower's lender does not pursue his co-signer for payment after a settlement, the co-signer's credit history still reflects the fact that a debt she was responsible for was settled for less than the amount owed. Laws governing credit reporting practices permit the derogatory information to remain on the co-signer's credit report for seven years. Should the co-signer require a loan in the near future, her credit damage may leave her stuck searching for a co-signer of her own.
Considerations
The borrower isn't the only one with the ability to negotiate a settlement with the lender. If the borrower stops sending payments and the lender contacts the co-signer, the co-signer has the right to negotiate down the borrower's debt. A co-signer can also negotiate how the lender reports the settlement on his credit report---lessening or even eliminating credit damage from the settlement.
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