Guarantor loans

Getting someone to vouch for you is a well known way of increasing the trust others put in you, especially if the person vouching for you is themselves trusted.

That is the idea behind guarantor loans; if you have difficulty getting a loan because of poor credit history, you can get someone who has good credit, and is therefore more trustworthy in the eyes of the lender, to vouch for you, thereby increasing the lender's confidence in you.

It is a similar model to guarantor mortgages where first-time home buyers get help from their parents whom at that stage have paid off a large portion of or the entirety of their mortgage.

How they work

how guarantor loans work
  • Step 1

    The borrower finds someone who knows them and is confident they will manage to pay back the loan, and therefore is willing to use his/her own good credit to help the borrower get the loan. The guarantor can be a family member (but not tied to you financially) or friend as long as they meet the lender's criterion which typically consists of; being a home owner, over the age of 21 and with a good credit rating.

  • Step 2

    The borrower provides details to the lender, application forms will be sent for both borrower and guarantor to complete, once returned the lender might also need to contact the nominated guarantor to confirm their details and whether they consented to be a guarantor.

  • Step 3

    The lender will check the guarantor's credit rating as well as other requirements, if the credit is good and they meet all the requirements, the loan will be issued to the borrower. The guarantor needn't play any further part unless the borrower has trouble paying back the loan, at which point the guarantor would be called upon to step in and make the payments.

Pros

  • Makes it easier to get credit:

    A credit rating is the main tool a lender has to decide whether or not to trust the person applying for a loan, in most cases they cannot meet you in person to discuss your current financial circumstances. Bad credit makes it very hard for them to trust you even if you can prove that you have enough income to manage the loan. Bringing along someone with good credit gives the lender an added layer of reassurance that the loan will be repaid.

    The concept of a guarantor loan is that your guarantor is someone who knows you in person and knows your current financial situation, therefore they should evaluate and if they're confident that you will manage to repay the loan, they’ll be willing to risk getting into debt themselves by letting you use their credit rating.

  • Lower interest rate:

    Most lenders require a guarantor that is a home owner with good credit; those two requirements greatly increase the likeliness that the lender will get their money back. The lower risk means lower interest charges when compared to bad credit loans where interest charges can reach 70% or payday loans which command over 1,000%.

Drawbacks

  • Risk of being asked to pay someone else's debt:

    As a guarantor you put yourself up as insurance for the loan; if the borrower fail to pay, the lender will expect you to cover the payments or else you risk ruining your own credit.

    Before agreeing to be a guarantor, you should think carefully about the risk it poses to your financial security, carefully evaluate the person asking you to act on their behalf; consider their past financial responsibility and loan amount compared to their income.
    Also consider the nature of your relationship; it this someone you’ve known for many years and can trust or is there a chance they could abdicate their responsibility and leave you with massive debts?

    If you any doubts that the person will manage the loan, then it’s in your interest to say no; they’ll be disappointed but that’s not as bad as risking your own financial freedom.

Conclusion

Having a guarantor helps to increase your chances of getting approved and may also lower your interest rate, however guarantor loans are not for everyone; the requirement is that a guarantor cannot be someone financially tied to you, so you cannot ask your spouse, and outside of your family not many people will be willing to risk their home and good credit.

If you cannot find someone, there are other options where bad credit is accepted without needing a guarantor, namely bad credit loans and payday loans, the downside to these options is that you're likely to pay higher interest charges.