If you want to buy a property but have a low deposit, getting a guarantor could be the solution. A guarantor loan means you can skip the LMI charges and own a home sooner. A guarantor home loan works by using the guarantor's equity, typically from a family member, to provide additional security for the loan, helping you avoid LMI and making homeownership more accessible.
In this article, we’ll explain what guarantor home loans are, how they work, the pros and cons and what your other options could be.
What is a guarantor home loan?
If you have a low home loan deposit, or none at all, you may have to look into some different options for getting a home loan. A home loan guarantor could be one such option.
With a guarantor loan, the guarantor is a third party to the loan. They will offer up some of their home equity to secure the home loan for the borrower.
The guarantor is usually a close relative, such as a parent, grandparent or sibling. They don’t need to hand over any cash when guaranteeing the loan, as they are simply adding security to the applicant's loan.
How do guarantor home loans work?
Here’s an example of how a guarantor borrower’s home loan can work:
Say that you want to buy an $800,000 home but only have a deposit of $80,000. This means you have a 10% deposit, which some lenders may not consider enough to get a loan.
Alternatively, they may approve you for a loan, but force you to pay Lenders Mortgage Insurance (LMI) which can really add to the cost of your home loan.
If you want to avoid paying LMI and don’t have enough saved for a 20% deposit, you may look into getting a guarantor on your home loan.
To reach the 20% deposit benchmark, your guarantor would have to offer up $80,000 in equity to act as additional security for your home loan.
And if you fail to make your loan repayments, your guarantor may be asked to step up in your place.
Who can be a guarantor?
A guarantor can be a family member, such as a parent, grandparent, sibling, or even a child aged over 18. Some lenders might also accept extended family members or ex-spouses as guarantors. However, it’s crucial to check with your lender for their specific requirements.
The guarantor must be a homeowner with sufficient equity in their property to secure the loan. Additionally, they need to be financially capable of covering the potential repayments if the borrower defaults on the loan. This ensures that the guarantor can genuinely support the borrower’s home loan without jeopardising their own financial stability.
Guarantor loan requirements
To qualify for a guarantor home loan, several criteria must be met. Firstly, you need a family member willing to act as your guarantor. This guarantor must be a homeowner with enough equity in their property to secure your loan. They also need to be financially capable of covering the loan repayments if you default. As the borrower, you must meet the lender’s credit criteria and demonstrate a stable income. Additionally, the property you intend to purchase must meet the lender’s valuation requirements. Given the significant responsibilities involved, it’s crucial for the guarantor to seek independent legal and financial advice before agreeing to the role.
What happens if you can’t repay your guarantor home loan?
One of the risks associated with a guarantor home loan is what happens if you can no longer handle your home loan repayments.
Since your guarantor is guaranteeing your loan, they will become liable to repay your mortgage in the event that you are unable to. This means that both the borrower and the guarantor need to be fully aware of their responsibilities and the potential implications of the loan.
This is why it’s crucial to understand what you’re getting into when you apply for a guarantor loan. Make sure that your guarantor fully understands their role and obligations. If they aren’t prepared to potentially have to repay your home loan, they may not work well as a guarantor.
Can I borrow 100% of the purchase price of a home with a guarantor?
Yes, in general you can borrow up to 100% of the purchase price of a home if you are using a guarantor. Some lenders might even allow you to borrow over 100% - e.g. up to 105%
Make sure you discuss this with your lender or a mortgage broker to check whether this will be possible in your circumstances.
Can you get a guarantor for an investment property loan?
Yes, guarantor home loans are available on both owner occupier and investment home loans. Getting a guarantor for an investment property purchase means you can jump on a good investment opportunity without having to wait until you’ve saved up a 20% deposit by leveraging the equity in the guarantor's own property as additional security.
How long does the guarantor stay on the loan?
In what will be good news for both the guarantor and borrower, the guarantor is not required to be a permanent fixture on the loan.
Once you repay enough of your loan and build equity, you can remove the guarantee from your loan. So, if your guarantor guaranteed 10% of your loan, they can be removed once you’ve built enough equity to cover their guaranteed portion.
Does being a guarantor affect your credit score?
Yes, if you choose to be a guarantor there is a possibility that your credit score will be affected. Here is how your credit file could be impacted:
Hard enquiry: the lender will do a hard enquiry into the guarantor’s credit history to screen their trustworthiness and likelihood to be able to handle the responsibility of being a guarantor. This enquiry will appear in their credit file and could have a negative impact on their credit score if the home loan application is rejected.
Loan on your credit history: as a guarantor, the loan you’re guaranteeing will appear on your credit report. This can be a good thing and even boost your credit score. However, if you’re applying for other credit products (e.g. loans and credit cards) your applications could be rejected if lenders aren’t sure that you will be able to handle further debt.
What the borrower defaulting means for the guarantor: if the borrower whose loan you’re guaranteeing defaults on their loan, this could impact your credit score. Plus, you’ll be responsible for repayments. If you are not able to make these repayments, the default could be recorded in your credit file.
Can you refinance a guarantor home loan?
In a perfect world, you’d wait to refinance your mortgage once you’ve built up enough equity to cover the guaranteed portion of your loan and remove your guarantor. That said, some lenders might allow you to refinance your guarantor loan with your current guarantor still in place.
Refinancing a guarantor loan can provide several potential benefits, including accessing more favourable loan terms, securing a better interest rate or tapping your equity by increasing your loan amount.
However, before you’re able to refinance your guarantor loan, your new lender will want to check that you have a good credit score and a clear repayment history. Not to mention, both you and your guarantor will be subject to the same checks as part of the refinancing process. This can take up to a month and often comes with its own expenses too. With this in mind, it’s important to make sure that refinancing is the best course of action for you and your guarantor.
Does being a guarantor affect your credit score?
If you decide to go guarantor on a home loan, there’s a chance it could impact your credit score. Here’s how:
Hard enquiry: Before you can become a guarantor, the lender will do a hard enquiry into your credit history to screen your trustworthiness and ability to be a guarantor. This enquiry appears on their credit file and could have a negative impact on your credit score if the home loan application is rejected.
Loan appears on your credit report: As a guarantor, the loan you’re guaranteeing will appear on your credit file. While this can help to boost your credit score if things go well, it could limit your ability to secure other credit products, like a loan or credit card, while you're a guarantor.
Borrower default could impact the guarantor: If the borrower defaults on the loan you’re guaranteeing, it’ll be up to you to cover their mortgage repayments. If you can’t afford to make these repayments, the default could be recorded on your credit file, which is a huge red flag for lenders.
What are the pros and cons of getting a guarantor home loan?
While a guarantor home loan can be a great option for the right low deposit borrower, it’s good to be across the benefits and potential drawbacks.
Pros of using a guarantor | Cons of using a guarantor |
|---|---|
- With a guarantor loan you can avoid having to pay LMI. LMI is an expensive addition to what may be the largest loan you’ll ever take out, so it’s good to avoid it if you can | - You may still need to show evidence of genuine savings, as lenders like to see positive saving habits |
- You can buy sooner and take advantage of good property opportunities with a guarantor loan. This can be particularly useful in a hot property market, where homes sell quickly and you have to act fast if you want a chance | - If you can no longer keep up with your home loan repayments, the guarantor will be responsible for repaying your loan. This highlights the financial risks associated with a guaranteed loan, where the guarantor's term deposit is used as collateral |
- Once the value of the guarantee has been repaid or the home’s equity has increased enough, the guarantor can be removed from the loan. Once they are removed, they are no longer liable to repay the loan in the event that you aren’t able to | - There is potential for the relationship between the borrower and guarantor to sour if the guarantor is forced to make the repayments |
- You may be able to borrow more money than you would otherwise be able to | - The guarantor’s borrowing power – including borrowing against their own equity as well as taking out new loans or credit cards – could become more limited |
- Your guarantor doesn’t have to physically contribute funds to your deposit | - If the borrower defaults and neither party is able to repay the loan, there is a chance that the guarantor could lose their property as it was the asset used to guarantee the borrower’s loan |
Should you go guarantor on a home loan?
There isn’t a simple answer to this question. If a loved one has asked you to act as a guarantor on their home loan, it’s essential for you to closely assess the level of risk to your finances and personal relationship with the borrower.
Remember that just because you can, it doesn’t mean you should. If you have concerns about the maturity or financial habits of the borrower, it may be better to avoid going guarantor on their loan.
Before you commit to being a guarantor, it may be worth it for all parties to speak to a financial advisor. While we all want to help out our family as much as possible, it’s important to think about the bigger picture when making such big decisions.
Consider:
What would it realistically be like to handle the borrower’s repayments on top of your own financial commitments, should it come to that?
Are you prepared for the worst to happen? E.g. possibly losing your house.
Is the borrower someone who is reliable and ready to handle a home loan? You don’t want to go guarantor for someone who is likely to let you down.
What other low deposit home loan options are there?
For low deposit borrowers who don’t want to get a guarantor, there may still be some low deposit home loan options out there.
Some lenders offer home loans to lenders with deposits as low as 5%! You may be required to pay LMI, but if owning a property soon is a priority, it could be worth it. To learn more about low deposit home loan options, book an appointment with your local Aussie Broker.
But if you want to avoid the LMI charges, it’s a good idea to see if you’re eligible for any of the Home Guarantee schemes. These are government schemes for first home buyers, rural buyers and single parents wanting to buy a home with a low deposit while avoiding LMI.
Thinking about getting a guarantor on your home loan or want to find out if you can get a loan with a low deposit? Book a free^ appointment with an Aussie Broker.
