Co-applicant in a loan: How it really affects your credit score

Banks have various eligibility criteria for loans. If a loan applicant doesn't meet one of the eligibility criteria, the bank may ask the applicant to get a co-applicant instead of rejecting the loan application.

In this article, we will understand why a borrower may get a co-applicant and the impact of a joint loan on the credit score and profile of joint applicants.

Need for a joint loan

Some reasons why a borrower may need to bring in a co-applicant include the following.

Low credit score: Banks usually consider a credit score of 750 or above good for approving loan applications, provided the other eligibility criteria are met. Some banks consider loan applications with a credit score lower than 750.

If a borrower’s credit score is lower than the minimum credit score specified by the bank, the borrower may be asked to bring in a co-applicant. In such a scenario, the borrower must get a co-applicant with a good credit score. The higher the credit score of the co-applicant, the better. A co-applicant with a good credit score increases the probability of the joint loan getting approved.

High DTI ratio: The debt-to-income (DTI) ratio measures the percentage of the monthly income used to service debt obligations. These can include repaying loan EMIs, paying credit card monthly bills, etc. Banks consider a DTI ratio of 35% or lower good for approving loan applications, provided the other eligibility criteria are fulfilled.

Banks consider a DTI ratio of 36% to 50% on a case-by-case basis for approving loan applications. The higher the DTI ratio, the lower the probability of the loan getting approved. If the borrower’s DTI ratio is higher than the maximum specified by the bank, the borrower may be asked to bring in a co-applicant. In such a scenario, the borrower must get a co-applicant with a lower DTI ratio.

Low income: Banks specify a minimum monthly income required for approving loan applications. If the borrower’s monthly income is slightly lower than required and other eligibility criteria are met, the borrower may be asked to get a co-applicant. In such a scenario, the borrower must get a co-applicant with a decent monthly income.

In a joint loan, the bank relies on the co-applicant to repay the loan in case the primary borrower is unable to do it. A joint loan application can be made with the spouse, children, parents, siblings, or anyone else the bank allows.

Joint loan application processing

While processing a joint loan application, the bank will do a hard enquiry on the credit profile of both applicants. The credit score and profile of both joint applicants will be reviewed. The bank will check if either applicant has delayed, settled, defaulted, etc., on any loan repayments.

Once the bank is satisfied with the credit scores and profiles of both applicants and other eligibility criteria, the loan application will be approved.

How does joint loan repayment impact the credit profile of both borrowers?

A joint loan repayment can be a boon or a bane for both borrowers. The entire loan repayment track record will be reflected in the credit profile of both borrowers.

How can both co-applicants benefit from timely payments

The timely repayment of loan EMIs will benefit both co-applicants. The repayment of each EMI will be reflected in the credit profile of both applicants. Thus, it will contribute to improving the credit score of both applicants.

Were you asked to bring in a co-applicant as your credit score was lower than the minimum specified by the bank? If yes, a joint loan is a good opportunity for you to make timely EMI payments and build a good credit score over a period of time. In the future, this good credit score will help you get loans on your own individually without the need for a co-applicant.

How will an EMI delay or default impact both co-applicants

While timely EMI payments can help both co-applicants build their credit score, the opposite can also be true. If the primary borrower delays or defaults on the EMI payment, it is the responsibility of the co-applicant to pay. In such a scenario, the co-applicant has a legal obligation to pay. If they don’t, the bank can initiate legal proceedings for loan recovery against both co-applicants.

The bank will report any delays or defaults in EMI payment to the credit information company (CIC) for both borrowers. The delay or default will be reflected in the credit profiles of both co-applicants. As a result, the credit scores of both borrowers will fall sharply.

If an EMI payment is delayed for over 90 days, it will be classified as a non-performing asset (NPA). Any loan default or settlement will be reflected in the credit profiles of both co-applicants. The default or settlement status can reflect in the credit profile for up to seven years, unless the borrower takes corrective action. The default or settlement status will make it challenging for both co-applicants to get new loans or credit cards in the future.

What are the disadvantages of a joint loan?

Given that joint loans can help in securing higher loan amounts or approvals. Still, they come with shared responsibilities and risks. Both co-applicants are equally liable, and any mistake or misstep can impact credit and finances.

1. Shared liability: Both applicants are legally responsible for repayment, even if one fails to pay. This concept is known as the concept of shared liability.
2. Credit score impact: Defaults and delays impact the credit scores of both co-applicants and can make future borrowing complicated.
3. Limited financial freedom: Decisions on loans and credit in this case require mutual consent, limiting independence.
4. Risk of relationship strain: Financial stress can even impact personal or family relations. Do keep in mind, it is better to avoid doing business or getting into a loan with family and friends.
5. Difficulties in securing future loans: Defaults or high outstanding joint debt can bring down eligibility for new loans and can even impact credit scores quite negatively.

Should you be a co-applicant in a joint loan?

A family member or others may approach you to become a co-applicant in their loan application. By being a co-applicant in a joint loan, you can help the primary applicant get the loan.

However, it will be your responsibility to ensure the primary borrower makes timely payments. If that happens, as a co-applicant, your credit score and profile will also benefit along with the primary borrower’s.

Still, if the primary borrower delays or defaults on EMI payment(s), the bank will ask you to pay up. Also, the delay or default will negatively impact your credit score and profile. Hence, as a co-applicant, you will have to ensure the primary borrower pays all EMIs on time till the loan is repaid fully. That is why it is always prudent to take such decisions after proper consultation with investment professionals.

Gopal Gidwani is a freelance personal finance content writer with 15+ years of experience. He can be reached at LinkedIn.

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