Everything you need to know about guarantor home loans

A home loan guarantor is a person, typically a parent or family member, who offers up an additional security for a person's mortgage. By having a guarantor, a person may be able to buy a home with a mortgage without putting down a 20% deposit or paying Lenders Mortgage Insurance (LMI). However, acting as a mortgage guarantor can be risky.

What is a home loan guarantor?

A home loan guarantor offers an additional security to support a new loan - typically their own property, although some lenders allow cash alternatives like term deposits.

If the borrower later defaults on their mortgage, the lender could chase the guarantor to repay the loan. If the guarantor also can't pay, the lender could claim the asset owned by the guarantor, as well as the original property, to recoup its losses.

From the lender's point of view, this makes the loan less risky. 

A borrower with a guarantor can sometimes even borrow more than the value of a property, typically up to 105%, which could help them cover the cost of stamp duty, conveyancing fees, or removalists. Though, some lenders may still require such a home buyer to put down some form of deposit, typically at least 5%, to demonstrate genuine savings.

Guarantor home loan requirements in Australia

A guarantor will need to meet the requirements of the mortgage lender in which you're applying. Common requirements for a guarantor include:

• The means to cover the guaranteed loan amount
  This might mean the guarantor is required to have sufficient equity in their own property or put cash into a term deposit.

• A stable income
  A guarantor must be able to afford the repayments on a mortgage if the borrower were to default.

• No mortgage or a mortgage with the same lender
  Many lenders require the guarantor to either have paid off their home loan or hold a mortgage with the same lender.

• An acceptable personal credit rating

• An Australian citizen or a permanent resident

• Over 18 years old but below 65 years old
  Some lenders won't accept older people or retirees as guarantors

• If the guarantor is using equity in a property they own, the property needs to be in Australia

What does a guarantor need to provide?

Mortgage broker and managing director at Finch Financial Services Julian Finch told Your Mortgage all that a guarantor needs to provide depends on the lender:

"Identification and a basic statement of assets and liabilities are a mandatory requirement," Mr Finch said.

"Some lenders stop there, others may require the guarantor to show they are working and can afford to repay the amount of debt they are guaranteeing.

"Some lenders may require the guarantee security to not be the only property the guarantor owns - this is essentially a sign they just don't want the business."

Which lenders offer guarantor home loans in Australia?

There are plenty of lenders that allow guarantor loans but, as Mr Finch says, many don't, or at least make it very difficult.

"A majority [of lenders] don't offer guarantor loans … and there are definitely some that are easier to work with than others."

He said in his experience, Westpac, CommBank, and St George are more amenable to the idea of guarantor loans.

What to look for in a guarantor loan

Mr Finch said the best lenders in terms of guarantor loans are those that:

• Allow the guarantor to have a mortgage on their own property with a different lender, rather than force them to switch over.

• Don't require a guarantor to prove they could service the guaranteed amount, so the loan assessment is based solely on the borrower's merits.

How much can you borrow with a guarantor home loan?

A common misconception is that having a guarantor means a lender will allow a person to borrow as much as they'd like via a home loan. This is not the case, though it can boost a person's borrowing capacity. 

By having a guarantor, a home loan borrower can avoid having to put down a 20% deposit or pay LMI. That means they'll likely have access to more cash to go towards their home purchase.

Though, the amount they can borrow will still likely be limited by a lender's serviceability testing. Essentially, a lender won't provide a mortgage that the borrower can't repay.

Generally, a bank must ensure a borrower could afford their repayments on their current income if their interest rate were to rise by 3% p.a.. A homebuyer might find their borrowing capacity increases if, thanks to having a guarantor, they're eligible for a lower interest rate.

A lender will often consider the value of the guarantor's commitment as a 'deposit', thereby reducing a borrower's loan to value ratio (LVR), potentially making them eligible for a lower interest rate and, therefore, boosting their borrowing capacity. 

Let's use an example:

If you were to buy a $500,000 property with a $50,000 deposit, you would expect to have a 90% LVR (ergo, you're borrowing 90% of your property's value). Most lenders instate higher rates and demand LMI if a person's LVR is higher than 80%.

However, let's say your parents agreed to guarantor your mortgage, using $100,000 of equity they hold in their own property. Since the lender now has $150,000 of security, in addition to the property being purchased, the borrower's LVR could  drop to around 70%.

Because their LVR is now in a lower risk band, the bank might offer the borrower a lower interest rate, shrinking the size of their repayments and increasing their borrowing power.

See also: Can you buy a home without a deposit?

Benefits of using a guarantor

There are several reasons that turning to a guarantor could benefit a homebuyer:

Eliminate LMI

LMI is an expense borrowers typically need to pay when taking out a higher risk loan. In general, borrowers with an LVR of 80% or more will be charged LMI. If using a guarantor brings you under that threshold, it could save you thousands of dollars.

Lower interest rates

A lower LVR can also provide access to more competitive interest rates. Many lenders have tiered rates available to borrowers with various LVRs. Typically, the lower the LVR, the lower the rate.

Looking for a low-rate home loan? Check out these options

Important Information and Comparison Rate Warning

Risks of taking out a guarantor home loan

While using a guarantor can improve your home loan application in a big way, you'll also need to consider the risks associated with doing so. Namely, if you fail to make your repayments, your guarantor will become legally liable for the loan. For that reason, being a guarantor is a major commitment for the person undertaking that responsibility.

Your parents might agree to step up and offer equity in their home to help you buy your own, but if you default on your mortgage, they might be forced to sell their property to pay off your debt. That type of thing can permanently ruin relationships, which are so often far more valuable than money. Turning to (or agreeing to be) a guarantor is definitely not to be taken lightly.

What happens if the guarantor can't pay?

In the event a guarantor doesn't have the equity or savings to cover an outstanding debt, they could apply for another mortgage on their property or take out a personal loan.

Only after both avenues have proven to be dead ends will the bank sell their property, and it will only take enough of the proceeds to cover the loan up to the guaranteed value. The rest of the sale's proceeds will go to the guarantor themselves.

Removing a guarantor

Once a borrower pays off the guaranteed portion of a home loan, they may be able to revoke the guarantor's responsibility. In such cases, the following conditions can apply:

• The borrower must be able to make repayments without assistance
• The principal amount of their loan must be less than 80% of their property's value
• They must have not missed any repayments within the last six months

How to be a guarantor

If you're on the other side of the equation and someone has asked you to be their guarantor, you'll need to consider whether your finances are up to scratch. Before you say yes, you should consider the following:

• Will you be able to comfortably pay off the loan in the event of a default?

• How confident are you that the borrower will be able to meet their repayment obligations?

• How much of the loan do you want to be a guarantor for?
  This is the maximum amount you will be liable for, so you should cap it at an amount you are comfortable with.

• Will the guarantor arrangement impact your future plans?
  It might be more difficult to borrow against your property while a portion of your equity is being used as security for another loan, for example.

If you decide to go guarantor, some insurance providers offer policies designed to repay the guaranteed portion of a loan in the event of your death or permanent disability.

Additionally, you'll likely be asked to seek independent legal advice to ensure you're aware of the agreement you're entering into and the potential long-term repercussions. Even if you're not forced to get legal advice, it's a good idea to do so anyway.

What happens if the guarantor sells their home?

If you put up equity in your own property as a guarantee and later decide to sell, the lender may allow you to remain a guarantor and use a form of cash as security instead. If you guaranteed a property up to the value of $100,000, for instance, you might be able to provide the lender with a $100,000 term deposit to act as security.

Alternatives to using a guarantor

There are other options for aspiring homebuyers struggling to put together a deposit who don't have the option of turning to a guarantor.

Alternatives include:

Government initiatives

Under the 5% Deposit Scheme, the federal government acts like a guarantor for a portion of a home loan to help eligible borrowers avoid LMI premiums. As the name suggests, the scheme allows first home buyers with a deposit as small as 5%, or single parents with a deposit as small as 2%, to purchase a property without paying for LMI.

A buyer might also be able to enter the market through the Help to Buy scheme, which sees the government buying up to 40% of a property alongside an eligible buyer.

Low deposit home loans

Alternatively, many lenders allow borrowers to take out loans with a small deposit. Most of the major lenders offer home loans with a maximum LVR of 95%, meaning you would need a deposit of just 5% of the property value.

These loans typically have higher interest rates and usually require LMI. LMI can usually be paid as an upfront sum, or baked into the loan, the latter of which attracts interest.

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