When cosigning a debt for a family member, think twice. If you’re still considering it, keep thinking until you change your mind.
Whether the loan is from one family member to another, or it has one person guaranteeing a loan from an institituion to a relative, danger lurks.
Three recent clients highlight the problems.
New Business Gone Bad
Recently a client had an idea for a new gizmo that could be patented. He paired up with a friend to form a company to exploit the idea.
Their angel investor for the startup was his parents. The seed money was the parents’ retirement fund.
Fast forward: the patent wasn’t granted, the founders had a falling out, and the business failed. That’s life in Silicon Valley. But the fall out of the failure may be the clients’ parents who now have no retirement money.
Parents Cosigning Student Loans
Parents often cosign private student loans for their children. But there is seldom a pot of gold at the end of the educational rainbow.
More often than not recent graduates don’t earn enough to pay the loans. The parents face downsizing or reduced income as a result of a shift in the workplace.
The parents, now nearing 60 years old, confront upwards of $450,000 in student loans for the multiple children they’ve put through higher education. At the same time, they face prospects of lower paying job and student loan debt they can never escape.
The Unexpected Injury
Son returns from a couple of tours of duty in Iraq and his dad cosigns a loan for a truck: everyone needs wheels. Only, son has untreated PTSD.
He can’t hold a job, enters a downward spiral, and eventually disappears. The truck is repossessed and dad gets sued for the deficiency.
My point
Each one of these stories involved borrowers who acted with honor. None of the younger generation intended to expose their parents to financial harm.
The parents in each case were generous and supportive. But perhaps not as analytic as they should have been.
Like most new ventures, I wager that the borrowers and lenders only considered the benefits of joining together financially to make things happen for the kids.
No one considered that the outcome would not be positive.
Fall out
My father always said that money does not bring out the best in people. (His language was a bit rougher and more pointed, but you get the point). When interfamily financial transactions go bad, family harmony can be the victim. Perhaps the parent and the child-borrower still speak, but the borrower’s siblings are alienated.
Even when the relationship between borrower and lender isn’t destroyed, the financial harm to the older generation can be catastrophic. And by definition, the older generation has less time to recover from financial set backs before retirement.
Therefore
There ares no simple rules in situations tinged with family feeling and financial need. I’d propose the following:
- Don’t expose yourself to any more loss than you can handle – cosigning the truck won’t ruin the dad in my story; the failed startup may ruin the investor parents.
- Discuss upfront how you proceed if the borrower can’t repay
- Consider whether the transaction is worth risking family harmony
Perhaps, the best advice is Nancy Reagan’s: just say no.
Image courtesy of Tomasz Wagner Mananetwork.
My father told me several times over the years. Don’t lend money to family. If you are thinking of lending money, then you consider it a gift. If you get paid back that is just a bonus. No amount of money is worth destroying a relationship. So if you are not willing to just give the money, then you don’t loan it.
If you are, and would be ok if the loan was never repaid, then you can loan the money. I thought that was a pretty good way to look at it. Same goes with cosigning because it is the same as a loan for all intents and purposes.