Do you Understand your Obligations as a Guarantor?
Coleman Greig has recently dealt with several matters where a person who has agreed to guarantee a borrowers loan has been held liable for the debt owed to the lender because the borrower was unable to make loan repayments, notwithstanding that the gurantor obtained no benefit whatsoever from the funds borrowed. This typically happens when family and friends are called upon to assist with someone business or investment aspirations.
This blog aims to provide information on the obligations of a guarantor and the potential risks associated with deciding to be a guarantor. We also look to provide an overview of the options available to guarantors in circumstances where a borrower defaults on repayments.
What is a Guarantor?
When borrowing money from a bank or financial institution it is often the case that the borrower will be required to find a third party who will agree to 'guarantee' the loan. A third party that agrees to guarantee a loan is known as a 'guarantor'. A guarantor will often have to 'put up' some form collateral to be used as additional security for the borrower's loan.
Quite often a guarantor is a family member, friend or in some instances an ex-spouse of the borrower. Sometimes a business entity or business associate will be approved by lender to act as a guarantor. In these situations the boundaries between professional and personal relationships can be blurred. Accordingly, it is extremely important, that before anyone agrees to guarantee a loan that they seek independent legal and financial advice so that they are completely aware of the potential risks of guaranteeing a loan.
A Guarantor's obligations
A guarantor may be bound to maintain repayments on a borrower's loan in circumstances where the borrower defaults on repayments. Alternatively they may be called upon to repay the loan in full. In addition, by agreeing to guarantee a loan, a guarantor limits their own ability to borrow from financial institutions until the guaranteed loan has been repaid as financiers will see the loan as a liability of the gurantor. A guarantor also risks destroying their own credit rating if a borrower defaults and the guarantor is unable to repay the loan themselves.
It is possible for a guarantor to request a release from the loan in circumstances where the borrower has built up enough equity in their owns assets or can otherwise convince the lender that the guarantor is no longer required. Obviously, the time frame for this will vary depending on the original loan amount, the loan type, repayments made and whether the borrower's assets have appreciated in value over time. In some instances, depending on the lender's specific policy and the terms of the loan, the borrower will need to pay additional fees at the time of the request to release the guarantor.
Before you agree to be a guarantor
Before you agree to guarantee a loan it is important that you understand the following points:
- What are you actually guaranteeing? What are the financial credentials of the borrower?
- What is your own financial position?
- Can you afford to cover repayment amounts should the borrower default on loan repayment?
- For how long will the borrower need to continue to make loan repayments?
- Have you read the loan contract?
- Do you clearly understand what amount is to be repaid (including interest rate, fees and charges and the installment amounts)?
- Are you being asked to put up any assets as security for the borrowers loan?
- Have you obtained independent legal and financial advice prior to becoming a guarantor?
If the risks of being a guarantor are too high, but you feel compelled to assist the borrower in some way, there is always the option of assisting the borrower by agreeing to provide some financial assistance by way of your own loan. An arrangement could then be put in place for the borrower to repay you the amount lent over much more friendly and convenient terms than a traditional financier would allow.
Again, much like evaluating the risk involved in being a guarantor, before entering into a loan with a borrower it is important to assess whether the borrower can and how they will repay the debt. It is important that before loaning any substantial amount of money that both parties agree to enter into a Deed of Loan. A Deed will help to sets out the terms and conditions of the loan and ensure that the lender protects their interests and will aid in the recovery of the debt should the borrower default on payment.
For further information on issues relating to borrowing from financial institutions, or either acting as guarantor for, or lending money to family or friends, please don't hesitate to get in touch today: