Typically a co-signed contract is between a parent and a child, Pellegrini says. "Many people don't realize that co-signing a contract impacts your available amount of credit and may no longer be available to you," he adds. "You could very well be declined, even if you have good credit, if you don't have enough income to justify the loans."
David Hryck, a New York City tax lawyer and personal finance expert notes you can also face hefty tax costs when a co-signed loan goes south.
"When you co-sign a loan you can face tax consequences if the debt is settled," says Hryck. "In many cases, the lender may decide that they'll bypass legal action and will decide to settle the balance owed. In such a case, you're now tax liable for the difference. For example, if you owe $5,000 and settle at $3,000 you would potentially have to report the remaining balance as a 'debt forgiveness income' when you file your end of year tax forms."
There are other ways to help out a friend or a family member looking for credit, other experts say.
"If the person can't get a loan in the first place that's a red flag," says Scott Vance, a financial advisor with Trisuli Financial Advising. "I advise my clients that if they truly intend on helping the person seeking the co-signer, consider just buying the item outright or contributing enough for them to become eligible for the loan and consider it a gift."
Note also that most student loans do not require co-signers. "Federal student loans, such as the Federal Stafford loan and Federal Perkins loan, do not require co-signers," says Mark Kantrowitz, publisher and vice president of strategy at Cappex.com, a company that connects students with colleges and financial aid. "Private student loans, on the other hand, almost always require a co-signer. More than 90% of private student loans to undergraduate students require co-signers and more than 75% of private student loans to graduate and professional students require co-signers."
Parents should ask themselves how much they trust their child before co-signing a private student loan for the child, Kantrowitz. "Co-signing a private student loan is like giving the student control over the parent's finances, since an irresponsible or careless student can easily ruin the parent's credit," he says.
The operative message for anyone asked to co-sign a loan is to tread cautiously, and exhaust all possible options before signing on the bottom line.
Your financial health, and your relationship with a loved one, may depend on it.