Co-debtor

There are countless situations in which a loan makes the realization of financial projects possible. However, for the loan to be granted, the borrower is checked for collateral. To provide these securities, a so-called guarantee is often required, in which in addition to the principal debtor, i.e. the borrower, one or more co-debtors are included. The principal debtor and the co-debtor then become joint debtors. In most cases, spouses or partners and business partners serve as co-debtors.

When is someone a co-debtor?

A co-debtor is characterized by being named in the loan agreement like the principal debtor and can therefore also be held liable for repayment of the loan, i.e. the incurred debt. Other terms for a co-debtor are co-borrower or co-applicant. This serves the lender or private creditor as a precautionary measure and security in financial transactions.

If a payment is outstanding, the principal debtor is contacted first. If that person is demonstrably unable to pay, the payment is automatically taken over by the co-debtor. Although the lender or private creditor can choose whether to turn immediately to the principal debtor or the co-debtor to collect outstanding claims, a financial institution such as a bank usually first employs all appropriate means to collect the outstanding amounts from the principal debtor. In this process, private assets can also be seized.

The advantage for the lender is the reduced risk when, in a financial emergency, they can turn not only to one person but to two or more people to recover the debt. The loan agreement must state the extent to which the co-debtor(s) are liable. This can be partial or full. In the case of divisible performance, the creditor may only claim a certain share, and the co-debtors would then only have to pay that portion.

Normally the principal debtor is contacted before the co-debtors are required to account for the debt. It is common in practice for two people to apply for a loan together, both signing the loan agreement. In many cases, lenders will only accept such a loan if at least two parties or co-debtors are named. The role of co-debtor can apply to both natural and legal persons, who may also act as legal representatives.

Special forms of co-debtors

A special form of guarantee is the so-called joint and several guarantee. As in other cases, all debtors remain liable until full performance has been rendered. If one co-debtor then pays the entire amount due, all affected parties are automatically released from this obligation, or in the case of installment payments, released up to the next due date. Because another person may be liable for a debtor in any case, the lender may require a special declaration of willingness to cover arising costs.

This declaration of consent allows the deduction of a liability and makes the guarantee a popular basis for action—particularly for the issuance of a loan. However, the guarantor is only required to pay if the actual debtor is unable to do so. By contrast, a co-debtor who is named from the outset for repayment also relieves the principal debtor of the payment obligation in such a situation.

What are the benefits of using co-debtors?

A guarantee is particularly useful when the principal debtor cannot demonstrate sufficient creditworthiness to the lender and therefore sees their financial request at risk. Guarantees are also often used when taking out a particularly large loan. For very high loan amounts, it may apply that the more co-debtors are named, the more likely the lender's decision will be favorable to the project. In addition, a guarantee and the resulting secured creditworthiness can lead to better terms in the loan agreement, which is why naming a co-debtor should be considered.

By signing the loan agreement, the co-debtor not only enables the lender to exercise equal freedom of action, but must also be equally liable. The probability of a loan default is thus reduced for the lender by several percentage points.

Cases in which co-debtors can be involved

Since the lender's security always requires binding collateral checks, the involvement of a co-debtor arises even in typical mortgage loans or construction financing. This ensures that the repayment rate can be reliably collected, since in financially precarious situations the second or third named co-debtor can be called upon to pay. In most real estate financing transactions, family members such as the spouse are included in these payments. For single-family homes, the husband is often listed as the principal debtor, while the wife is entered as a co-debtor.

The same applies to company formations. Especially with business partners, all participants in the company management are often listed. However, this also depends on the company's legal form. Partnerships under civil law are treated differently from stock corporations. The choice of legal form therefore affects whether and to what extent persons in the company's management can be held liable by the relevant authority or by state and private lenders.

Once the loan amount and the accrued interest on the provided funds have been fully repaid, the co-debtor can be immediately released from their responsibility and need no longer worry about further liabilities.