The Ultimate Guide to Guarantor Loans

Many first home buyers are finding it difficult just to get into the market. Saving the 20% deposit for a home loan is one huge hurdle that they just can’t get over on their own. But there is another way… A guarantor loan.

If you don’t have a deposit or enough savings to purchase a property, a family guarantee allows you to secure the deposit against a property owned by your parents, siblings or even a friend’s house. Known as a ‘Guarantor home loan’, in this situation, a relative or friend is prepared to use the equity in his/her own home to guarantee the deposit of the borrower.

Example: a person wanting to buy a $400,000 property.

They would need to have saved at least $20,000 deposit PLUS stamp duty and legal costs. IF they can find a bank to lend 95% of the value, they would also be needing to pay about $11,000 Mortgage Insurance. This is where a family guarantee can help.

The person purchasing the property has enough money saved to cover the stamp duty and legal costs, but they need to borrow the full property purchase price of $400,000.

The parents have a property worth $500,000 which they own outright. They would guarantee $80,000 equity in their home which then acts as the deposit for the child’s purchase. The loan is in the child’s name only and they don’t have to pay the mortgage insurance, saving them $11,000. Parents guarantee is for $80,000 only.

Advantages

  • You are able to buy a home sooner rather than waiting years to save enough deposit to buy.
  • Using a guarantee may avoid having to pay any Lender’s Mortgage Insurance (LMI)
  • Allows the home buyer to purchase in a more desirable location and a home that is better suited to their needs.

The risks

  • There are no direct financial rewards for going guarantor. You do not have any rights to own the property bought with the loan, nor will you receive a better credit rating when the borrower pays off the loan.
  • Your ability to borrow against your own assets may also be restricted if you are a guarantor.
  • Guaranteeing the loan: depending on the structure of the guarantee, you could be liable should your child default on the payments.
  • If you can’t make the payments, the lender may sell the home used as security. If this is still not enough, the lender may also require you to sell assets to meet outstanding debt.
  • Another major risk is a bad credit rating if default occurs.

Minimising the risk

  • Use a monetary gift or private loan instead. This involves borrowing money against your property in your name, and then gifting it to your child.
  • Buy the property jointly with your child.
  • You should also consider asking a legal professional to draw up a formal loan document outlining all conditions of the loan, interest rate and expected repayments.
  • - Outline an exit strategy. Financial situations change and as the loan decreases with repayments, there may be an opportunity for you to withdraw your support to free up your assets without impacting your child’s loan.

Let me help take the leg work out of finding the right loan with the right structure and a competitive rates. Contact me today for an obligation free chat, I’d love to help.