According to the latest data, the median price of a home in Sydney was $1,000,500 in June. This means, to buy a property in Sydney, you would need, on average, $200,100 or 20 percent of the purchase price as the deposit. No surprise then, first home buyers find it difficult to break into the property market. The more they wait to save a deposit, the more the prices soar, turning their quest to buy a home into an impossible dream, unless they can secure a high LVR home loan.
But high LVR loans come at a cost. While 100 percent LVR loans are unheard of now, you may be able to borrow 90 percent or more of your property’s price on the payment of Lenders Mortgage Insurance or LMI, which will add a few thousand to your home loan.
Or, you could ask your parents to help you! Yes, more and more youngsters are looking towards their parents who are eager to help their children settle down by getting them an early foothold in the real estate market. You read it right. Your parents can use the equity in their property to guarantee your home loan, which will enable you to borrow up to 100 percent or more of the purchase price.
You can read more about guarantor loans here.
Are you planning to go guarantor for your kid’s home loan?
Nothing will make you happier than seeing your child well settled in his or her abode. The good news is that you could propel your child’s property buying dream by guaranteeing their home loan if they are struggling to save up the necessary deposit amount.
However, emotions apart, being a guarantor for a home loan is a huge financial responsibility that could jeopardise your financial future in case things go south. Especially if you are nearing retirement, you need to really think it through, as you do not need financial stress when you are not working anymore.
How does a guarantor loan work?
Being a guarantor, you will use the equity built in your property to guarantee your child’s home loan. Banks often require a guarantee when they find it risky to lend to a certain borrower, and need extra assurance in the form of a guarantee. This could be because of low deposit, unstable employment history or many other reasons. Consequently, the loan is secured against your property as well as the property being purchased.
Generally, banks allow only immediate family members, mostly parents, to act as guarantors. However, spouses, siblings and even grandparents could act as guarantors in particular cases.
In short, while your turning guarantor will help the borrower considerably, there will not be any financial benefit to you. However, there is ample risk involved, as you will be responsible for making the repayments on the home loan in case the borrower defaults on the loan for any reason.Thus, it is important you make an educated decision.
Here are some of the risks you should be aware of:
Lowered borrowing capacity – As a guarantor for a mortgage, even though you are not making any repayments on the home loan that you have guaranteed, when you apply for any loan in the future, the loan that you have guaranteed will be taken into account by the credit provider while assessing your borrowing capacity. In case you plan to buy another house later in life, going guarantor will significantly impact your ability to take out a loan in the future.
Risking your credit report – Your credit report is not affected in any way when you are acting as a guarantor for a mortgage. However, in case the borrower defaults on the guaranteed loan and you are called upon to make the repayments but fail to do so, the default will stay on your credit file, tarnishing it for years to come. Are you sure you can honour the repayments on the home loan if things go awry in the future?
Risking your relationship, potentially – Acting as a borrower for a loved one will help them considerably. However, you are not absolved of your liability as a guarantor even if you have a fallout with the borrower. Banks will still hold you accountable if the borrower fails to make repayments on the guaranteed loan. You also risk the chance of souring your relationship with the borrower in case you are called upon to service the home loan on their behalf.
Often, parents know better than a bank whether their child will be able to take on the responsibility of a home loan or not. If you feel strongly about guaranteeing your child’s home loan, here are some tips to reduce the risk:
Take independent legal and financial advice – Being a guarantor calls for an unemotional assessment of your financial health as well as understanding your liabilities as a guarantor. Thus, you must seek independent financial and legal advice to understand the level of commitment before deciding.
Take out insurance – Getting insurance could help the guarantor as well as the borrower avoid a tricky situation, in the case of any unforeseen circumstances such as the loss of a job or an illness.
Consider a limited guarantee option – Before you decide to guarantee your child’s home loan, discuss how long you need to support their mortgage. With subsequent repayments, as the equity in the property builds up, you should be able to release yourself from the guarantee. Instead of going full board, you could also choose to guarantee a percentage of the home loan. Speak to a mortgage broker to know more.
Discuss alternate options – You don’t have to guarantee your child’s home loan to help them. You could discuss alternative options such as gifting a deposit to help them qualify for a home loan without a guarantor.
Acting as a guarantor for a mortgage for your children or loved ones could assist them to finance their dream property. However, it is not a decision you should take from the heart. It is necessary to seek independent advice and be very sure that you can afford the repayments in case the borrower fails to.
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By Vidhu Bajaj
HashChing Content Writer