The FICO score is a credit score calculated by using the Fair Isaac Corporation's scoring algorithm. The score is used by lenders as an important factor in determining eligibility for loans and loan terms, such as interest rates. Cosigning a loan refers to guaranteeing to repay a loan in the event that the primary borrower does not repay it, and it can affect your credit score.
Potential
When someone cosigns for an account, the cosigner is considered to be just as liable for the account as the person he is cosigning with. The account will be listed on both credit reports, and the creditor can come after the cosigner for repayment of the loan even if the borrower has not been pursued yet, according to the Federal Trade Commission.
Purpose
Lenders usually require a cosigner on an account when the primary borrower does not meet the lending criteria or does not have a sufficient credit history. For example, a teenager going to college may need a cosigner on a credit card if she has not had a credit card before or does not have a significant income. Borrowers may try to get someone to cosign their loan in order to receive more favorable terms, such as a lower interest rate, if her past credit is shaky. For example, if a person has a lower credit score but gets a person with stellar credit to cosign the loan, the lender is more likely to offer a lower interest rate.
Significance
The most obvious impact on a FICO score from cosigning a loan will be that the payment history of the loan will be added to the cosigner's payment history, which accounts for 35 percent of the loan. If the loan is paid on time and as agreed, the payment history can be beneficial because the cosigner will have another account reported as being in good standing. However, if the borrower makes late payments, the cosigner's credit history will suffer as well.
Considerations
The FICO score can be affected in several ways by cosigning for a loan, besides just your payment history. Thirty percent of the FICO score comes from the amount of money a person owes and what percentage of her available credit is being used. When someone cosigns for a loan, that amount of debt is added to her outstanding debt, which can bring down a FICO score because of the higher debt load. In addition, because of the higher debt, other lenders may limit how much additional money the person can borrow in her own name.
Warning
People should be very cautious about who they cosign for on a loan. When cosigning, the cosigner should ask the lender how much he could be liable for in the event of the borrower defaulting. Some lenders will allow a cosigner to only be liable for the principal owed when the borrower defaults, rather than also being liable for court costs, interest and finance charges. Cosigners should also get a copy of all the loan documents and a written agreement that the lender will alert the cosigner if the borrower ever misses a payment.
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