The Role of Guarantors in Personal and Car Loans

A guarantor can make a big difference to a loan application. But there are important things that both the borrower and the guarantor need to know. Here is a quick overview.

What is a Guarantor, anyway?

A guarantor is someone who makes a guarantee to a lender that, if the person taking out a loan is not able to make repayments, they will take over.

This is different from a co-borrower because a co-borrower has equal liability from the outset. The guarantor is only called upon if the primary borrower cannot pay the loan.

A borrower might need a guarantor if they have limited credit history and lenders are wary of lending to them, or if they do not have much deposit.

Why Lenders Require Guarantors?

Lenders might approve loans they would otherwise decline if there is a willing guarantor.

It reduces the risk to the lender because there is a “plan B” option in place if the borrower cannot service the loan.

Guarantors are more commonly required on loans for people just starting out without a solid credit history or financial means, or when someone is rehabilitating their credit after a rough financial patch.

Responsibilities and Risks for Guarantors

Becoming a guarantor is not something that should be entered into lightly, because there are serious responsibilities and risks involved.

If the borrower stops making payments, the lender is allowed to request that the guarantor pay the loan repayments, as well as any interest, fees and penalties that have been added.

If they cannot pay, they risk having their own credit rating damaged or action taken against them by the lender.

In one case that was dealt with by Financial Services Complaints Ltd, a lender wanted to repossess a woman’s car when she acted as a guarantor for a loan for her daughter, who missed payments.

How Does Having a Guarantor Affect Loan Approval?

Having a guarantor may improve your chance of having a loan approved because it gives the lender more reassurance that the loan will be repaid.

Lenders will run checks on the guarantor, too, to ensure that the person can afford to pay the loan if they are required to.

Lenders are required to provide a guarantor with certain information about the loan and the process of providing a guarantee. The Commerce Commission offers advice on this disclosure.

Key Considerations Before Agreeing to be a Guarantor

If you’re thinking about acting as a guarantor for someone, there are some important questions to ask yourself.

• Is the borrower trustworthy? How likely do you think it is that they will default on the loan?

• Are you being put under pressure to be a guarantor?

• Could you cope with the repayments if you had to?

• Have you received the required disclosure, and have you sought independent advice?

• Do you know what you’re guaranteeing – is the guarantee limited to a particular loan? Is there a cap?

It is also often a good idea to set out boundaries and expectations with the borrower. You might, for example, require that they tell you immediately if their financial situation changes.

A written agreement might help keep the relationship on track.

Alternatives to Using a Guarantor

A guarantor doesn’t work for everyone.

There are other options that might help.

• Offering security: If you can offer the lender security for the loan, it gives some protection. That might be a car or other valuable asset that the lender can register an interest in and sell if you fall behind on your loan.

• Joint applications: An application from two people can be stronger than one.

• Building credit: If you have time, you might be able to remove the need for a guarantor by building up your own credit history and finances.

How to Remove Yourself as a Guarantor?

It generally isn’t easy to remove yourself as a guarantor unless the loan has been repaid.

You would usually need to apply to the lender to have the guarantee removed.

If the borrower’s financial situation has improved, that might be possible. If not, the lender might require that there be a replacement guarantor or some other form of security offered.

FAQs About Guarantors in New Zealand

• Can a guarantor be based overseas?
  Sometimes. It’s generally easier to have a guarantor who is based in New Zealand, but it may work in some situations.

• What rights does a guarantor have?
  Guarantors have quite a few rights. Lenders have to help them understand what it means to be a guarantor, check they can afford the loan, give clear information about the contract, give copies of important documents and not let anyone else force them into being a guarantor. They are also required to let guarantors know if something changes, or if the borrower applies to increase the loan amount.

• Are there limits to what a guarantor can be liable for?
  It depends a bit on the specific guarantee being offered. Some guarantees are for all of a borrower’s lending with a particular lender, for example, while others are for one loan, or a specific amount. It’s important to be really clear about what you’re guaranteeing.

Do you Have Questions About Guarantors?

We’re here to help. The better finance™team can offer you expert advice on all stages of the personal loan process. Whether you need a guarantor or not, we can help you find a great solution for your needs.