If you’re new to the borrowing scene, navigating the environment and securing a loan might be hard. Perhaps you’re a young adult about to start your career or have a very limited credit history. This is where a guarantor comes in handy. But while having a guarantor has its perks, you should also consider its drawbacks.
The Perks of Having a Guarantor
A guarantor is a person willing to co-sign a loan agreement guaranteeing to repay the loan amount in case the borrower defaults. In most cases, they are a close family or friend with a good track record of responsible borrowing and financial management.
Having a guarantor has its benefits, like the following:
Increased Chance of Loan Approval
Lenders are more secure when approving loan applications with guarantors in the picture. Lenders prioritize borrowers who can fulfill their financial obligations and are less likely to default. A guarantor with a stable income source and good credit history increases lender confidence in new borrowers’ applications.
This is especially helpful for young adults and new borrowers wishing to pursue further education, buy their first car, or put a down payment on a property.
Potential for Lower Interest Rates
Whether you’re borrowing from a licensed money lender or a traditional bank, a lender sees guarantors as a way to minimize risk. This increases lender confidence in offering lower interest rates because of the assurance that they will get their money back. Even small differences in rates can save you thousands of dollars in the long run which can be directed towards savings, retirement funds, or something equally valuable.
Establish a Credit History
Responsibly paying for loans is a good way to improve credit scores and establish a good credit history. Credit bureaus keep track of loans and repayments to evaluate a borrower’s creditworthiness. Making those regular monthly payments—with a guarantor backing you up—is a sign of financial responsibility. This type of maturity is crucial to your future borrowing needs as lenders rely on credit scores when assessing applications.
The Pitfalls of Having a Guarantor
While having a guarantor has its perks, borrowers should also be aware of its setbacks, like the following:
Financial Strain on the Guarantor
Since the guarantor promised to repay the loan in case the primary borrower defaults on a loan, the financial burden is placed on their shoulders. When this happens, lenders can legally pursue the guarantor to pay them back. This can cause financial and mental strain on the guarantor.
Potential Strain on Relationships
When the primary borrower defaults on a loan and leaves the guarantor with the burden of having to deal with a debt they don’t own, it can cause relational tension. Guarantors might resent the borrower’s irresponsibility, while the borrower might feel guilt and shame.
If you’re considering getting a guarantor or co-signing a loan agreement, think it through. Discuss all the details with the parties involved, including loan terms, repayment plans, and potential consequences of default. Doing this will help everyone manage their expectations and come up with contingency plans for unexpected scenarios.
Impact on Guarantor’s Borrowing Capacity
Lastly, having a guarantor might get you in good with lenders but keep in mind your loan ends up as part of the guarantor’s liabilities. In Singapore, lenders look at all of a borrower’s existing liabilities, including outstanding loan guarantees. Acting as a guarantor on a significant loan will limit their own borrowing capacity. This could mean that they might not get that car or housing renovation loan they need or that education loan for their children.
Wrapping It Up
Guarantors are crucial participants in the lending scene, whether it’s in Singapore or somewhere else. They can help a new borrower secure favorable loan terms and build a good credit history. However, they’re also putting their own interests at risk, especially when the primary borrower fails to live up to their end of the bargain.
While having a guarantor definitely has its pros, consider the cons, too. Openly communicate and set expectations at the onset. Have backup plans in place to not compromise your guarantor in case you end up in a tight spot. Like borrowing, guarantorship should be approached responsibly to fully enjoy its benefits.
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