What Happens to Cosigners When You File for Bankruptcy?
When your credit is not good enough to qualify for a loan, the lender may require a co-signer. This practice is common with young people who have not established credit but want to buy a car or a home, and their parents help them out by co-signing.
Unfortunately, you cannot usually foresee tough economic times, job loss, illness, or a divorce, which can put pressure on finances. Under economic stress, you may have to consider filing bankruptcy.
Chapter 7 bankruptcy does not offer any protection for your co-signer. While you can discharge the debt, your co-signer is legally responsible for paying your loan when you default on payments. That means creditors have the right to take actions against your co-signer if you file Chapter 7 bankruptcy.
The Bankruptcy Code refers to a co-signer as a codebtor. The person who co-signs is legally also a debtor on the loan. Under 11 USC § 1301 - Stay of Action Against Codebtor, when you file Chapter 13, the stay prevents creditors from taking legal actions, not just against you, but also against your codebtor.
A Chapter 13 bankruptcy may protect your co-signer. However, you must adhere to the Chapter 13 payment plan and make payments on the cosigned loan. The loan must also be for a consumer debt, in other words a personal and not a business debt. Also, your cosigner cannot benefit in any way from the debt proceeds. To ensure your co-signer has no liability for your debt at the end of your bankruptcy discharge, you must pay off the debt in full. If any amount of the co-signed debt remains after bankruptcy discharge, your co-signer would be liable for paying it.
Discuss bankruptcy with an experienced bankruptcy attorney. It is a good idea when considering bankruptcy to determine what consequences your financial situation may have on your co-signer.