Before you do this, examine the liabilities that may come from this arrangement.
At some point in your life, you may be asked to stand as a loan guarantor by a friend or family member. You may think this is a harmless financial arrangement and may agree to it thinking it to be a harmless social obligation.
Before you do this, examine the liabilities that may come from this arrangement. When the borrower’s credit history is weak or if he doesn’t meet the eligibility criteria, then the banks and lenders insist on a guarantor to the loan. If the borrower defaults, it may become the guarantor’s responsibility to repay the loan, failing which his own credit history may suffer.
Understanding a guarantor’s role
Banks intend to recover their loans. If they find a borrower’s financial standing under doubt, they may ask for a guarantor. The guarantor’s role can be either financial or non-financial. This difference is key. As a non-financial guarantor, it is your responsibility to liaise between the lender and the borrower to resolve any delays in repayment. But as a financial guarantor, it is your responsibility to also repay the loan if the borrower fails to do so.
Hence, before you agree to financially guaranteeing someone’s loan, consider the following things.
You would be financially responsible for the loan
Signing up as a guarantor is not a mere formality. In case of a default, the guarantor must cough up the outstanding loan amount. In case of death of the borrower, if there is no mortgage redemption insurance plan, the guarantor might be held responsible for repayment. Considering the legal obligations that come along with the role, you might want to check if the bank is asking for a guarantor because the borrower is likely to default in repayment or the loan amount is above the borrower’s eligibility. The guidelines on getting a guarantor vary from bank to bank, so make sure you are aware of the norms.
Your credit score is also on the line
Lending institutions look at the guarantor’s financial history to evaluate his repayment capacity. In case of delays in repayment or default, it’s not just the borrower’s credit score that gets affected, but also the guarantor’s.
Your loan eligibility reduces
Once you sign up as guarantor, your personal loan eligibility reduces. This is because the loans you would be now offered would factor in all your liabilities—including any loans that you have guaranteed.
There is no turning back when the loan is sanctioned
Once you have become a guarantor and the loan is sanctioned, you cannot turn your back on this commitment. The process of withdrawal is not easy. You would need approvals of both the lending institution and the primary lender to quit. So it’s best to think it through before you sign up for it.Some Do’s and Don’ts
1. Assess the borrower’s creditworthiness and financial position to understand the borrower’s repayment potential.
2. Find out why the lender requires a guarantor. If he has a poor repayment history, you may want to immediately refuse.
3. If you are in need of a loan yourself, avoid concurrently playing a guarantor at the same, since your own loan eligibility may reduce.
4. Be prepared for the worst. Make sure you have enough funds to pay off the loan if responsibility falls upon you.
5. Remind the borrower to make timely repayment to ensure your credit score is not affected.
6. Read the terms and conditions properly to avoid nasty surprises.(The writer is CEO of BankBazaar.com)You can now invest in mutual funds with moneycontrol. Download moneycontrol transact app. A dedicated app to explore, research and buy mutual funds.