Should you co-sign for Mom and Dad?
Middle-aged parents who've lost their jobs or savings are turning to their adult children for help. Plus: 6 things to ask before agreeing to co-sign.
It's almost an American tradition: Kids in their 20s without credit histories have long turned to their parents to co-sign for them -- for a first credit card, a car or an apartment lease. Now the credit crisis is turning that tradition on its head.
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Financial advisers, credit counselors and lenders across the country say they've seen a surge in middle-aged parents with damaged credit who have asked their adult children -- usually in their late 20s or early 30s -- to co-sign loans and leases for them.
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"I'm seeing this a lot more now than I did two or three years ago," says Laurie Giles, an elder-life-planning attorney in Shelton, Conn., and the author of the "What Now?" book series. "A lot of times, it's parents who had stable jobs for 20 or 30 years who got used to living on credit. Then they're suddenly downsized, and they don't have strong savings built up, or their savings went down with the market. And their house isn't worth what they thought."
No one tracks statistics on how common the practice is, and most lenders consider such information proprietary. But LeaseTrader.com, a nationwide car leasing marketplace, reports a 29% increase over the past two years in the number of parents asking their children to co-sign for them when shopping for a Car Lease.
"These are people who can afford to take over the lease payment but have issues qualifying for credit," says Sergio Stiberman, the CEO and founder of LeaseTrader.com. On average, the parents who get help from their children are taking over a payment of less than $399 a month, he says.
Most loans small
The kids-helping-parents practice is most common with smaller loans such as those for cars and furniture, and for apartment leases -- not for mortgages, credit counselors say. Parents are also asking their grown children to co-sign on low-interest credit cards they can't qualify for by themselves. Some are so desperate that they secretly steal a child's identity to qualify for credit, says Elizabeth Schomburg, the senior vice president of Family Credit Management, a Chicago nonprofit credit counseling agency.
So what should you do if your parents come to you with a request for help? Tread carefully, experts say. Before you co-sign, make sure you consider the implications. (See the six questions to ask before you say yes at the end of this article.) Then be prepared to pay if they can't.
"What children have to be very aware of is that this can backfire on them," says Bruce McClary, a certified credit counselor and spokesman for ClearPoint Credit Counseling Solutions, a nonprofit in Richmond, Va. "Just because you love them and trust them, you can't predict their financial future and how they'll react if they run into a tough spot and can't pay. Then it's on you."
Guard your own credit
Even if your parents make all their payments on time, the decision could still hurt you the next time you need credit for yourself -- if you're trying to get a home mortgage or a car loan, for example.
At CredAbility, a nonprofit credit counseling center based in Atlanta, one client who was about to buy her first home came in asking why her credit score was low, says Mechel Glass, CredAbility's director of education. The woman had a car loan, very little credit card debt and made all her payments on time, Glass says. But she also had a $10,000 loan she had co-signed for her parents.
"Even though her parents made all the payments," Glass says, "that loan made her debt-to-credit ratio really high, and that pushed down her credit score. We advised her to get her parents to refinance the loan in their names only."
Emotional collateral damage
Leslie Lezia Brenner, a psychologist in Atlanta, says such situations can be damaging emotionally as well as financially. A grown child who supports a parent may start to question and resent the parent's decisions ("How can she afford a cruise if she can't even make her car payment?") in a way that can break down the child-parent relationship.
"It puts the child in a very difficult place," Brenner says. "They feel guilt if they don't help, anger if they do. It can cause them to lose a lot of respect for their parents."
Ashley Christian, 26, of Richmond, Va., says she felt obligated to help her mom get a car loan for a used Toyota a few years ago because her mother had been the co-signer on Christian's first car.
"I was especially hesitant because I work in the financial industry, and I know it's not a good idea to co-sign, but she raised me as a single parent and did whatever she could to help me," Christian says. "She made me feel like it was my turn to help her out."
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Mom's layoff affects daughter's credit
Her mother made the payments on time until she got laid off about a year ago, Christian says. "I just happened to check my credit report and noticed a couple past-due payments she hadn't told me about," Christian says. Then another blow: When she went to change her address on her driver's license, she learned her license had been suspended because of an uninsured vehicle. "My mother hadn't paid the insurance," she says.
Although Christian eventually worked out the license situation, she still has the dings on her credit. "It was just a really tough, sticky situation that made both of us upset," Christian says. "I just want to get my name off of it. I want to be able to buy a home in a couple of years, and now I have this to worry about."
An awkward money chat
Obviously, lending to your parents doesn't always turn out badly. Bonnie Michelle Crowder of Houston says she agreed to co-sign a car loan for her mother more than 10 years ago. When her mother missed some payments during a job transition, Crowder had to have a talk with her. "I told her: 'I understand you're trying to build up a business, but it's important that the bill gets paid. You have skills. You have a college degree. If you need to, get a temp job to fill the gap.'"
It was an awkward conversation, Crowder says, but her mom never missed another payment and eventually paid off the car.
Her mother, who is now a successful financial planner, still drives the car, Crowder says. "She called me just the other day and said, 'You know that car you helped me buy? We just hit 375,000 miles.'"
6 questions to ask before you lend to parents
1. Can you afford to make the payments? When you co-sign, you enter a contract that holds you responsible for the entire debt. If your parents miss one or more payments, the bank will come after you for the money. "Go in thinking, 'I may be buying my parents a car,' and make sure you're OK with that," says CredAbility's Glass.
2. Can your parent(s) afford the payments? When a lender requires a co-signer, it's probably for a good reason, says Gary Foreman, a former financial planner who edits The Dollar Stretcher (and writes the "New Frugal You" column for CreditCards.com). "By co-signing, you may be putting your parents in a situation where they're going to be constantly struggling to make the payments." Ask to see their monthly income and expenses to make sure they have enough cash to take on the additional debt.
3. Do you want to set any conditions? If you're worried about your parents' money management skills or their current debt load, require them to see a credit counselor before agreeing to co-sign. Or tell your parents you expect them to refinance or sell within a certain amount of time.
4. Why do they need a co-signer? Consider why your parents' credit scores are so low and take that into account. If your parents have a history of mismanaging money, that's a red flag.
5. How will it affect your debt-to-income ratio? Experts traditionally recommend no more than 36% of your gross income should go toward debt. Any higher and your parents' debt could be counted against you when you apply for your own car loan or a mortgage.
6. Is there another solution? Experts say almost anything is better than co-signing a loan. If you can afford it, purchase the item for your parents and have them pay you back. "It's better to buy them a $2,000 car than to co-sign a $10,000 car note," Foreman says. Consider whether your parents could do without whatever they want you to co-sign for. Or see if the lender will allow you to "vouch" for them rather than co-sign. (This is especially common with leases.)
This story posted by LeaseTrader.com, the automotive service company that lets people transfer out of their Car Leases early. If you're looking to swap a lease or transfer out of your car lease, please visit www.leasetrader.com