How Does a Guarantor Home Loan Work?
For many young people, getting their foot in the property door can be a challenge. Saving for the deposit and fees is usually one of the biggest hurdles. Parents will often want to help their children get set up, but not have the cash reserves to gift them a deposit. In this case, if they have enough equity in their own property/s, they can offer it as security and act as a guarantor.
How it Works
A guarantor, in most situations, provides a security guarantee only. This means that the borrower will have to be able to service the entire loan on their income alone, but they will not have to come up with all of the deposit normally required. Most lenders structure the guarantee in a way that the loan is split into two parts. One loan is secured against the new property and the second is secured against both the new home and the guarantor’s property. Both loans are solely in the borrower’s name, but the guarantor has put up extra security making the lend possible. The idea is that once there is enough equity in the new property, the borrower will refinance the loan and remove the guarantor’s security from the pool.
Ideally the borrowers can secure a home sooner than if they had to wait and save over a longer period for their deposit, potentially risking property value increases that could price them out of the market. It also means the borrowers will not have to pay lenders mortgage insurance, which can be costly. Another benefit is that because the property will remain solely in the borrower’s name, they may still be eligible for any first home buyer grants or savings.
Not all lenders offer a guarantor home loan option, so it is important to do your research. Your mortgage broker will be able to help you here. For those lenders who do offer this type of loan, a guarantor scenario is generally restricted to a parent / child or spousal relationship. This is because there has to be some direct benefit for the guarantor and they see helping out your child or partner is a direct benefit. Other relatives and associates are generally deemed unacceptable as guarantors. Another thing to consider is that not all property types are acceptable for use in a guarantor situation.
Impact on the Guarantor
In the case of parents acting as guarantors, it is important that they fully understand the risk. The first and most obvious is that should the borrower default on their payments, the responsibility can fall on the guarantors and they then risk losing their property. Another potential issue is that it can affect future borrowings the guarantor may wish to look at. Most lenders will insist all guarantors obtain independent legal advice to make sure they know what they are entering into.
The guarantor scenario is one that comes with great benefits for the first home buyer. However, there are also risks involved for the guarantor so it is important that you approach the situation well informed. Contact us for more information to see if the guarantor option is for you.