Posted by Manisha Thakor.
Since credit card regulations tightened in 2009, more parents are having to co-sign for their college-age children.
Designed to protect younger people who don’t have the financial means or the knowledge to handle debt, the Credit CARD Act forbids credit card companies from lending to your college-age kids—unless they can prove they have the means to pay the money back or (the more likely option) that YOU agree to co-sign and take full responsibility for that debt.
Riding on the coattails of your creditworthiness has obvious advantages for cash-strapped freshmen; especially if your credit score is north of 600, unlocking a world of relatively low APR offers that the uncreditworthy can only dream of. The downside risk is that they will overspend, forcing you to bail them out financially and jeopardizing your hard-earned credit score.
On the plus side, co-signing may give you some control over your child’s borrowing—which might have gone off the deep end had their cards been solely in their name. By keeping an eye on their spending, it reduces the chance they will splurge on Spring Breaks to Cancun, and other peer-pressured extravagances.
Consider laying down this rule
There is one ground rule you may consider establishing before you sign on any dotted line: Insist that they pay off the balance IN FULL every month.
Reckless spending is not the only big temptation for students. Reading a monthly bill and only seeing the “minimum payment” amount is an act of selective perception to which we are all susceptible—but especially stone-broke students inexperienced in the workings of compound interest.
So, even if your child is virtuously using their card for bare necessities, such as buying textbooks, let them know that credit cards can be financially ruinous if they only end up paying the bare minimum each month. This example might help:
Let’s imagine you go on a textbook binge and put $1,000 on your credit card (the College Board recommends that students budget around $1,200 a year for textbooks and supplies1). If the interest rate is 18%, and you only make monthly minimum payments (interest plus 1% of the balance), it will take you 113 months (that’s over 9 years!) to pay off your debt. That means the total interest you’ll end up paying will be $923—almost as much as the amount you borrowed!
Like those candles you bought for power outages but which you’re tempted to use on date night instead—a student credit card should be reserved for emergencies. Credit cards can ultimately be a force for good when in safe hands; however, they can also be a force for bad if you get trapped in a revolving door of minimum monthly payments. Teaching your young adult children the importance of paying off all credit card balances on time and in full is a truly priceless lesson.