What is a guarantor home loan, and what does the guarantor risk?

Most guarantor loans are a deal between generations. The buyer earns enough to cover repayments but has not saved a full deposit. The parents hold equity in their home but would rather not hand over cash. A guarantee joins the two positions. The lender takes its usual mortgage over the new home, plus a second one over part of the parents' place. No money leaves the parents' account. Their promise does the work a deposit would have done.

That promise has real teeth, which is why this guide exists. Before anyone signs, everyone at the table should be able to answer two questions. How much is guaranteed, and when does the guarantee end.

How the security actually works

Take a $600,000 home and a buyer with almost nothing saved. The lender is happy to lend $480,000 against the new home, because that is 80 per cent of its value. The guarantee covers the gap between the loan and that line. Borrow the full $600,000 and the guarantee is $120,000, secured over the parents' home. Their exposure stops at that figure.

The buyer still needs to cover stamp duty and legal costs, and still needs the income to service the whole loan. A guarantee fixes a missing deposit. It does nothing for a weak income.

Skipping lenders mortgage insurance is the other half of the appeal. LMI is the premium a lender charges when a loan runs past 80 per cent of a property's value, and it protects the lender, not you. With a guarantee in place the lender is covered a different way, so the premium never arises.

Limited versus unlimited guarantees

A limited guarantee has a dollar figure on it, like the $120,000 above. That figure is the ceiling on what the lender can ever claim from the guarantor. An unlimited guarantee has no ceiling. It stands behind the whole loan, plus interest and costs, for as long as the loan runs.

There is no good reason for a parent to sign an unlimited guarantee over a family home purchase. The industry has largely settled the point. The Banking Code of Practice requires subscribing banks to limit a guarantee to a stated amount or to specified property. If a guarantee document turns up without a hard number on it, that is the moment to stop and ask why.

What the guarantor actually risks

Start with the blunt version. If the buyer stops paying and the sale of their home does not clear the debt, the lender can demand the shortfall from the guarantor, up to the guaranteed amount. A guarantor who cannot pay it from savings can be forced to sell their own home to raise it. ASIC's Moneysmart site says exactly that, in plain words. The contract simply works that way.

The everyday costs are smaller but arrive sooner. The guarantee sits on the parents' file as a liability, so their own borrowing power shrinks until release. Selling or refinancing their home gets harder while the lender holds a mortgage over it. And money stress inside a family is its own tax, whatever the documents say.

Guarantors at banks do get specific protections under the Banking Code.

• The bank must hand over the loan contract and information about the borrower's finances.
• It must meet the guarantor without the buyer in the room.
• It must wait three days before accepting the signed guarantee, unless the guarantor has taken independent legal advice first.
• It must tell the guarantor when the borrower falls seriously behind.

Treat that legal advice as the step you never skip. A guarantee is a contract over the family home, so pay a solicitor to read it before anyone signs. This site publishes general information, not personal advice, and this is a decision where the personal kind matters.

How and when the guarantee is released

A guarantee is meant to be temporary. The usual trigger for release is the loan sitting at or below 80 per cent of the home's current value. Reach that line, ask the lender, pay for a valuation, and the parents get their title back. Some lenders check for it on their own. Most wait for you to raise it, so put a date in the calendar rather than trusting the bank to volunteer.

Three things move you toward the line: normal repayments, extra repayments, and the home rising in value.

The family conversation nobody wants to have

Asking your parents to put their home behind your loan is uncomfortable, and it should be. Skip the soft phrasing at the kitchen table. The honest sentence sounds like this. If I stop paying and the sale falls short, you could lose up to $120,000, and your house secures it.

Then settle the awkward cases while everyone is still on good terms. What happens if the buyer loses their job for six months. What happens if a couple buys together and later splits, because the guarantee does not dissolve with the relationship. What happens if the parents want to downsize while the guarantee still stands, since selling needs the lender's consent. Who speaks up, and how early, when money gets tight. Write the answers down. An awkward hour now is cheaper than a silent default later.

The alternatives

A guarantee is one of several ways to close a deposit gap, and it is not automatically the best one.

• Pay the LMI. The premium is a real cost, and it is often added to the loan, but the risk stays with the buyer and the family stays out of it.
• Use the government scheme. The Australian Government 5% Deposit Scheme lets eligible first home buyers borrow with a 5 per cent deposit and pay no LMI. Income caps were removed and places are no longer limited, though other eligibility rules still apply. For many first buyers this now does much of what a guarantee used to do.
• Take a gifted deposit. The parents hand over cash instead of security. Their risk ends when the money leaves. The lender usually wants a short letter confirming it is a gift, not a loan, and nobody's home stands behind anyone else's debt.
• Wait and save. A bigger deposit means a smaller loan, and no LMI once you reach 20 per cent. The honest downside is that prices can move while you save, and nobody can promise you which way.

Where to read next

A guarantee solves a deposit problem, so first make sure a deposit is actually your problem. If past defaults are the real blocker, start with home loans after credit problems. If you are self employed and paperwork is the issue, low doc loans cover that gap. And if your file is strong, see what a prime home loan gets you, because the sharpest pricing goes to the cleanest files.

Common questions