WHILE helping your friend by acting as his guarantor for the loan application is commendable, acting as a guarantor without knowing what you are getting into can have serious financial consequences.
WHILE helping your friend by acting as his guarantor for the loan application is commendable, acting as a guarantor without knowing what you are getting into can have serious financial consequences. The onus of loan repayment can actually fall on the loan guarantor if the primary borrower defaults on the loan.
Why and when do banks seek guarantors?
Banks seek loan guarantors when the loan amount exceeds a minimum limit or if the income of the applicant is not eligible for the applied loan amount. In some cases, factors like the age of the applicant, low credit score, or profile of the applicant, call for a loan guarantor.
There are no fixed guidelines and each bank has its own norm when it comes to loan guarantors. Public sector banks are more likely to seek loan guarantors as compared to private banks as it gives them an additional security layer to avoid building up non-performing assets. A guarantor is a third party who pledges that he or she would repay the loan in case the original borrower fails to repay the loan due to any reasons.
Difference between being a co-borrower and a guarantor
Many people confuse between co-borrower and loan guarantor. While a co-borrower is part of the loan process, a loan guarantor is a third party who comes into the picture only when loan recovery from the actual borrowers is not possible.
If the main borrower dies or is unable to repay the loan, the onus of loan repayment then lies with the co-borrower and not the guarantor.
The guarantor comes into the question only when the borrower and co-borrower are unable to repay the loan either due to death or any other reason. If you choose to stand as a loan guarantor for someone, the bank will have a legal agreement with you. Therefore, read the terms and conditions in detail and ensure you are convinced of the same before signing.
By acting as a loan guarantor, you are not simply being a witness, but in fact guaranteeing that the borrower will repay the loan on time failing which you guarantee the loan repayment. Some banks would ask to pledge property of the borrower, which is of equal value as that of the loan amount. If the bank is not able to recover the amount from the borrower, they can well claim the guarantor’s property to make up their loss.
Loan guarantee and credit score
It is also not a common knowledge that when a person becomes a guarantor for any loan, it is linked to their credit score. This effectively means that any default on the loan on which you stand as a guarantor will reflect in your credit score poorly. Your credit score can fall even if you are doing all financial dealings in the right manner, but the loan borrower for which you are a guarantor is defaulting periodically. This is all the more reason to act guarantor only after due deliberation.
Things to watch out for before guaranteeing loan
Stand as a guarantor to only those people who you know are financially sound and will be able to repay their loans. Stand guarantor only to close family and friends as a rule. If you find any clause of the bank unacceptable, talk with the bank and the borrowers before signing the guarantor agreement with the bank. Understand the nature of guarantee and seek legal advice before saying yes to anyone for a loan guarantee. Keep track of repayment with the borrowers to ensure that the loan is being repaid in a timely manner.
The writer is CEO, BankBazaar.com