A guarantor loan is a type of loan where a third-party – usually a family member – agrees to take responsibility for the debt if the loan applicant doesn't make the repayments. It allows people who have previously struggled to secure a loan, perhaps because of bad credit history, to access borrowing. While it can be a good option for some people, there are some risks involved for both the loan applicant and the guarantor. In this article, we look at exactly how guarantor loans work, what the advantages are for this type of product, the dangers users can encounter and the alternative options out there.
How does a guarantor loan work?
Guarantor loan products are targeted at people who may only be able to take out a loan by getting somebody else with a stronger credit history to guarantee they will take on the loan if the applicant cannot. You could end up in this situation because of previous missed payments, defaults, CCJs or bankruptcy. These all leave a mark on your credit file and make it difficult to secure traditional unsecured loans from mainstream lenders. Similarly, if someone has very little credit history because they haven't entered into credit agreements in the past, they can also find it difficult to get accepted for a loan.
It can be possible to get guarantor personal loans, guarantor mortgages and guarantor car finance, though these products are always available from UK lenders. You will pay a premium if you do take out a guarantor loan, as they are more expensive than standard products.
It is important to read the terms and conditions of a guarantor loan carefully, whether you are the main loan applicant or the person acting as a guarantor. There should also be an open and frank conversation between the applicant and the guarantor to discuss what would happen in the worst-case scenario that the applicant can't afford to repay the loan.
Who can get a guarantor loan?
When you apply for a guarantor loan the lender will assess not only the creditworthiness of the loan applicant, but also of the guarantor. The nature of the product is that the loan applicant may have little or no credit history, but they will still need to demonstrate that they can afford to make the repayments. The guarantor will have to have a strong credit record as a way of proving they will be able to take on the burden of the debt if the applicant doesn't pay it back.
In addition, to be eligible for a guarantor loan, the loan applicant has to:
- Be over 18
- Have a UK bank account
- Have sufficient income to be able to meet the monthly repayments
Meanwhile, the guarantor has to:
- Be over 21 (18 for some lenders)
- Have a UK bank account
- Have a good credit rating, with no history of missed payments or defaults
Some lenders and comparison sites have tools that can check your eligibility and give you a good idea of whether you are likely to be accepted for a loan, without it leaving a mark on your credit report. It's a good idea to use these, where available, as being turned down for a loan is detrimental to your credit rating and could make it harder to borrow in the future.
Who can act as a guarantor for a loan?
Most people can theoretically act as a guarantor for a loan if they are over the age of 21 (a handful of lenders will accept guarantors who are over 18), have a good credit history and have sufficient income to make the monthly repayments if the original applicant cannot. In practice, it is more likely that only a family member or close friend would be prepared to take on the responsibility of acting as a guarantor because of the nature of the commitment.
Most lenders put an age cap of 75 for the guarantor at the time the loan is taken out, which may place restrictions on some grandparents being able to take on the role. There is also usually a restriction on the guarantor having any existing joint financial commitments with the loan applicant, including a joint bank account or mortgage. This means a spouse or partner would not be able to act as a guarantor in many cases.
What makes a good guarantor?
These key factors need to be taken into consideration when thinking about what would make someone a good guarantor.
- Meet the basic eligibility requirements: They need to be within the age bracket, have a sufficiently strong credit history and have the means to take on the loan if necessary.
- Willing to commit for the lifetime of the loan: Agreeing to act as a guarantor on a loan is legally binding and you cannot change your mind further down the line. A prospective guarantor has to accept they will be tied to that loan for the lifetime of the product, which could be several years.
- In a position to pay the debt if required: If there are any potential changes in circumstances on the horizon for the guarantor – perhaps uncertainty around employment or other financial commitments – both the applicant and the guarantor need to carefully consider whether they are well-placed to take on the role of repaying the debt.
- Have an open and honest relationship with the applicant: The key to success with a guarantor loan is that both parties set out their expectations at the beginning of the agreement and maintain good dialogue, particularly if the loan applicant runs into difficulties with making the repayments. There is a real risk with this type of financial product that it can easily lead to arguments and rifts, particularly if one or both parties feel they have been misled.
- Entering into the agreement willingly: While the guarantor should never be strong-armed into taking out the loan, it is still wise to evaluate whether there are more subtle pressures in play. Good communication is vital, as well as evaluating whether there are alternatives to taking out a guarantor loan that may work better.
How much does a guarantor loan cost?
The amount you pay for a guarantor loan will be determined by how much you borrow and over what time period. Generally, they have higher interest rates and fees than standard loans because the applicant tends to have a poor credit history, which opens the lender up to a greater level of risk – though that should be offset by the addition of the guarantor.
What happens if I miss a payment on my guarantor loan?
If there is a chance you won't be able to make your monthly repayment, you should contact the lender as soon as possible to see if they can offer any extra help. If you fail to inform the lender, they will often automatically approach the guarantor to make the payment.
Regularly missing payments will damage your credit record, but the guarantor ultimately shoulders greater risk as they take on the responsibility of paying off the loan. If they can't make the payments, their credit record will also be damaged and they can face further action, including intervention by a debt collection agency.
The advantages and disadvantages of guarantor loans
Her is a summary of the major advantages and disadvantages of guarantor loans that you should consider:
What are the advantages of guarantor loans?
- Guarantor loans can provide those with little or poor credit history the chance to secure a loan
- You may have the option to borrow more money than with other types of loans
- You can build up your credit score if you keep up with your repayments
- The money is typically paid to the applicant quickly, sometimes within 48 hours
What are the disadvantages of guarantor loans?
- The interest rate and fees can be high when compared to a standard loan, meaning you will pay a significant amount in interest over the lifetime of the debt
- There is a risk the relationship between the applicant and the guarantor could be damaged if the loan is not paid back as agreed
- As a guarantor, you risk damaging your previously strong credit record and bearing the burden of a potentially expensive loan if the original applicant doesn't keep up with repayments
Alternatives to guarantor loans
As guarantor loans involve getting a third-party to take on responsibility for the debt, it is worth considering if there are other options available to you. Look at whether you need to take out a guarantor loan in the first place rather than a standard unsecured personal loan. There are a number of lenders that offer loans to people with poor credit scores, albeit they can be expensive. Similarly, you may be able to use a credit card designed for those with a poor credit history, depending on how much money you need. We explain how to decide whether a credit or loan is the best option in our article 'Is it better to get a credit card or a personal loan?'.
Make sure to check your credit score and see what you can do to improve it before you start applying for products aimed at people with a poor credit history. There may be some small steps you can take or simple changes you can make to get your creditworthiness back on track.
If you do decide on a guarantor loan, see if you can reduce the amount you borrow to make the debt more affordable.