Will My Cosigner Be Liable for Debt if I File Bankruptcy?

If you have cosigners or guarantors on any of your debts, your decision to file for bankruptcy will affect them. If you do file for bankruptcy, however, there are ways to prevent your creditors from pursuing your codebtors. Read on to learn more about how bankruptcy impacts the obligation of your cosigners and guarantors to pay your debts and what you can do to protect them.

What Is a Cosigner or Guarantor?

Deciding to sign a loan as a cosigner or guarantor is a lot more serious than merely providing a reference. A cosigner or guarantor is responsible for paying back a debt if you're unable to do so. Here's how it works.

First-time borrowers, borrowers with poor credit histories, and new businesses often have a difficult time getting funding. Many lenders are more likely to make a loan if the borrower can get someone else—a guarantor—to agree to be responsible for the debt.

Specifically, creditors require a cosigner or guarantor (usually someone with a higher income, more assets, or better credit) if they doubt your ability to repay the debt on your own. For instance, a bank might ask that you supply a guarantor for your loan for any of the following reasons:

• You have little credit history the bank can use to judge your ability to satisfy your obligations.
• Your credit isn't perfect, or you've filed for bankruptcy.
• You can't put up collateral to secure the loan.
• You want to borrow more than you can afford to repay.
• You're borrowing the money for your business (in which case, you might be asked to guarantee the loan with your personal assets—called a personal guarantee).

A guarantor might be required in other contexts as well. For instance, landlords ask first-time renters or those with past credit issues to have someone guarantee the obligation. The same holds true when contracting for vehicle, equipment, and furniture leasing.

How Is a Guarantor Different Than a Cosigner?

Unlike a cosigner who is equally responsible for each payment, the guarantor usually is only liable on the loan if the borrower fails to fulfill the payment obligation. For instance, a creditor can pursue a cosigner at any time. But with guarantors, creditors usually must attempt to collect from the primary borrower first before going after the guarantor. The guarantor must make the lender whole (pay off the loan) if the borrower can't do so.

The distinction can be important because although a cosigner might be able to step into the borrower's shoes and make the monthly payments, a guarantor will likely be on the hook for the entire balance. (To find out how a guarantor can get rid of a guarantee, read Bankruptcy and the Personal Guarantee.)

How Bankruptcy Affects Cosigners and Guarantors

Your bankruptcy discharge only eliminates your obligation to pay discharged debts. It doesn't affect the responsibility or liability of the cosigners and guarantors on your debts. However, how much protection they will receive when you file depends on whether you file a Chapter 7 or Chapter 13 bankruptcy.

Chapter 7 Bankruptcy: No Protection for Cosigners and Guarantors

When you file a Chapter 7 bankruptcy, all collection activities against you must stop because of the bankruptcy's automatic stay. However, the Chapter 7 automatic stay doesn't extend to your cosigners and guarantors. So your creditors are free to pursue them to collect the debt.

Even if you decide to file a Chapter 7 bankruptcy, you can take steps to protect your cosigners and guarantors from collection efforts by creditors. Here are your options.

Reaffirm the Debt

Before receiving a discharge in Chapter 7, you can choose to reaffirm secured debts such as car loans, mortgages, and other certain other credit accounts (jewelry, computer, and furniture accounts are often secured by the purchased product, meaning that you must return it if you fail to pay as agreed). When you reaffirm a debt, you give up the benefit of your discharge and make yourself personally liable on the obligation again. As a result, reaffirming debts isn't usually advised unless you need the particular item; however, it might help protect your cosigners and guarantors from your creditors. (To learn more, see Reaffirming Secured Debt in Chapter 7 Bankruptcy.)

Pay Off the Debt

After a Chapter 7 discharge, you are no longer obligated to pay back any discharged debts. However, this does not preclude you from voluntarily paying off your debts after the bankruptcy. If you want to protect your cosigners and guarantors, you can continue making payments on the debt until it is paid off. Keep in mind that even though a cosigner can step in and make a monthly payment for the borrower, a guarantor will more likely be required to pay the entire outstanding balance. Unless you can pay the balance in a lump sum payment—which would be unusual after a bankruptcy—you'll need to negotiate a payment plan with the creditor. The creditor might not agree to a payment arrangement if the guarantor has sufficient assets to pay the debt in full.

Chapter 13 Bankruptcy: Stronger Codebtor Protection

A Chapter 13 bankruptcy offers greater protection to your cosigners and guarantors. Plus, you get more time to pay off the cosigned or guaranteed debt through your three- to five-year Chapter 13 repayment plan.

When you file a Chapter 13, the automatic stay protects cosigners and guarantors from creditors collecting on consumer (nonbusiness) debts—called the Chapter 13 codebtor stay. Your creditors can still ask the court to lift the automatic stay under the following circumstances:

• Your cosigner or guarantor received the consideration (benefit of the deal) for the creditor's claim.
• You aren't proposing to pay the debt off in full through your Chapter 13 plan.
• The creditor will suffer irreparable harm (lose money in some way) if the stay remains in place.

Also, keep in mind that the codebtor stay will end if the court dismisses your case or converts the Chapter 13 to a Chapter 7 bankruptcy.