Bankruptcy and Cosigners

The Effect of Filing Bankruptcy on Cosigners

Many times when a person is seeking to obtain a loan a cosigner is required.  Many times these cosigners are either a friend or family member who signs a legal document or contract and promises to pay your loan in the event that you default on your payments.  This cosigner becomes legally liable for the debt, the same as the principal signor.

When a principal on a loan that has cosigner files for bankruptcy, a cosigner is viewed by a lender/creditor as a “co-debtor” on the loan.  Under a Chapter 7 filing, eligible debts of the principal – which may include the loan signed on – are discharged and the debtor is protected from creditors attempting to enforce the loan.  However, the cosigner remains liable for loan.  Unless the cosigner of the loan has also filed for bankruptcy protection, creditors can enforce the terms of the loan against the cosigner to the fullest extent of the law, including garnishment of wages, or placing a lien on the cosigner’s property.

One way to protect a cosigner in bankruptcy is if the principal signer agrees to pay off the debt.  Typically, this happens by the principal signer of the loan entering into a reaffirmation agreement with the creditor.  The principal signer’s actions can have an impact on the co-signer’s credit.  Any late payments or delinquencies incurred by the principal singer will have a negative impact on the cosigner’s credit.

Unlike a Chapter 7 case, a Chapter 13  provides some protection to cosigners.  The automatic stay that provides protection to the debtor upon filing bankruptcy also protects the cosigner.  While the automatic stay is in place, creditors are not able to attempt to collect on the cosigned debt from either party.  However, if the debtor does not provide for repayment of the debt in full in their Chapter 13 Plan, the creditor can petition the court to have the automatic stay removed so that they may proceed with enforcement of the loan against the cosigner for the difference between what will be paid through the Chapter 13 Plan and what is owed by the terms of the loan agreement, including the entire unpaid amount if it is not provided for in the Plan.

Cosigners take on a considerable responsibility when they agree to cosign a loan and the cosigning can be a delicate matter especially if the cosigner is a family member or friend.