With a guarantor loan you can avoid costly LMI and get a home loan without years of savings. Here's how it works.
If you're not able to save up a deposit, or wish to avoid paying Lender's Mortgage Insurance (LMI), a guarantor can help.
A guarantor assumes responsibility for your home loan if you can't make repayments. This lowers your risk as a borrower, which allows your bank to lend you as much as 100%.
Compare guarantor home loans in the table below
Most of the loans in this table allow guarantors to cover at least a portion of your loan. All loans in this table have a maximum LVR between 90% and 95% and some may require at least 5% deposit of genuine savings.
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If you haven't saved enough for a deposit or a lender doubts your ability to repay a loan you may require a guarantor. The guarantor must usually be a parent or immediate family member, and traditionally uses their own property (or rather, the equity in it) as security.
A guarantor can guarantee the entire loan or a portion of it, say 20%.
With a guarantor home loan, the borrower can borrow 100% or even 110% of the property purchase price, allowing them to avoid the cost of lender’s mortgage insurance (LMI) and also pay some of the other expenses associated with buying a home. This gives first homebuyers a great opportunity to get a foothold in the property market.
Some lenders only accept parents as guarantors but others accept relatives. While every lender has different requirements, the following criteria usually apply as well:
- Finances. Obviously a guarantor needs equity in their property and a stable income to satisfy lenders.
- Credit. Your guarantor should have a good personal credit rating.
- Residency. Lenders generally want a guarantor to be an Australian citizen or permanent resident.
- Age. A guarantor must be over 18 and typically under 65. Few lenders are comfortable accepting retirees and older people as guarantors. There are exceptions to this, of course.
If the lender isn’t convinced that the borrower will be able to repay the loan, whether it’s because they lose their job, fall ill or are injured, then they are likely to require the signature of a guarantor. This way they have a backup so they can recoup their money if the borrower is no longer able or willing to make the payments. Thus, generally people with little to no credit history, low incomes or young people are often required to have a guarantor if they want to take out a loan.
With the right guarantor, many lenders will let you borrow up to 100% of the value of a property or even slightly above that.
If you already have some money saved for a small deposit a guarantor loan can still be very helpful. If you have a 5% deposit saved you may have to borrow 95% of a property's value. Given that many loans have a maximum LVR of 80% you'd be liable for lender's mortgage insurance (LMI), a major additional cost.
Having a guarantor provide security for the remaining 15% of your deposit lets you get the loan and avoid that extra cost.
- Note: The majority of lenders won’t give out more than 100% of the cost of purchasing the property even if there is a family guarantee or they may ask that the borrower put down a small deposit. However, some lenders will gladly offer 105% of the price of the property, which can make life a lot easier because someone can purchase a property and cover the cost of stamp duty without having to save a penny. Remember, these are approximate guides only.
There are several benefits to guarantor loans, depending on your circumstances and financial goals. With a guarantor home loan you can:
- Get into the property market faster. Once you're in the market and paying off your loan you can build up equity and enjoy capital gains if the property grows in value. If you spend more months or years saving up for a full deposit without a guarantor the property might grow in value and you'd need to save even more.
- Avoid LMI. Lenders mortgage insurance can add thousands of dollars to your home loan. A guarantor loan takes this cost out of the equation.
- Get a better rate. There are loans for borrowers with small deposits but they often have higher interest rates as well as LMI. Using a guarantor can unlock better loans with more favourable rates.
While the benefits are clear, the risks of guarantor loans are also very self-evident.
Your guarantor takes on a major financial risk. If you cannot make a mortgage repayment your guarantor's property might ultimately become the bank's property. This can be costly if the secured property is an investment. If the property is the family home it could be ruinous.
Guarantor loans are deeply personal and potentially risky. Financial strain can lead to relationship breakdowns and deep distress.
Thankfully, a guarantor is only liable to repay the amount they guarantee. Once that amount is repaid the guarantor is released from further liability (the borrower, obviously, is not).
John and Rachel's financial woesJohn and Rachel purchase a $600,000 apartment with a 5% deposit ($30,000). Rachel's parents guarantee a further 15% ($90,000).
John and Rachel repay $150,000 of their loan over the next few years. Sadly, John loses his job and the couple struggle to make repayments. Thankfully Rachel's parents are no longer liable because the $90,000 they guaranteed has been repaid. While Rachel's parents are off the hook they do have to make some adjustments: John and Rachel are forced to sell up and move back in with them!
Agreeing to act as guarantor is a serious step and you need to consider your position very carefully. Ask yourself the following questions:
- Can I afford to go guarantor? Assess your financial situation realistically. Plan out a scenario where you suddenly become liable for the full amount you've guaranteed. Could you afford to pay this amount?
- Can the borrower afford this loan? Try to assess the borrower's financial situation as clearly as possible. Don't make this judgement on instinct either: ask for hard evidence. If this causes a problem then going guarantor would be very unwise.
- How is your relationship with the borrower? Are you on good personal terms? Just because you're close family doesn't mean you get along at the best of times. And with large sums of money involved even good relationships can become strained.
Top tips for going Guarantor
- Make sure you are fully aware of your own financial situation and that of the person you are considering going guarantor for because the last thing you need is to have to pay someone else's loan off. If it does come to that, you also need to make sure you can afford to make the payment, so think well before you agree.
- Consider your relationship with the person borrowing the money. The closer you are, the more likely it is that you won't have any problems or if the worst does happen, you stand a better chance of recovering your money.
- Get independent legal and financial advice to make sure you fully understand what this process entails and how it will affect your financial situation.
- Ensure you can cover the monthly repayments without outside help before you commit.
- To further reduce your risk exposure, make sure the loan is not more than 90% of the total value of the property.
- Exiting as a guarantor. Even if the loan is for 30 years, that doesn't mean the guarantee needs to be in place for the entire duration.
- Guarantor protection. There are ways for a borrower to protect the guarantor from losing the roof over their head and even from having to pay the loan by taking out insurance.
Never sign a contract for a guarantor loan without first seeking advice from a qualified finance lawyer. While lenders generally set all the terms of a contract it's important to know exactly what you're getting into. You need to be aware of the extent of your liability and responsibilities if the borrower defaults. If possible, you should try to limit your guarantee in amount and time. But keep in mind that lenders may be reluctant to alter a contract.