Going guarantor

Information about accepting responsibility for someone else's debt

A guarantor is someone who agrees to be responsible for the payment of someone else's debt should they default on payments.

Guarantors are required in numerous situations. They may be asked to:

guarantee rental payments and other obligations of a tenancy (for tenants who would otherwise fail to meet the property owner's or agent's financial qualifications);
pledge collateral for the contract of another; or
sign a mortgage and assume responsibility for it, despite the fact that they receive no benefit from the loan.

Taking on the role of guarantor is a big responsibility. It is not merely carrying out a formality to help a friend or relative obtain credit. It means that you are prepared to pay the debt if the borrower cannot. Many people become a guarantor for a close friend or relative. Often, they overestimate the other person's ability to pay and fail to consider the very real possibility that the full burden of the debt may be shifted onto their shoulders. No matter the state of the borrower's financial affairs, every guarantor needs to understand their rights and duties under the Consumer Credit Code and must be prepared to pay the total amount owing.

Anyone over 18 can be a guarantor. Normally, a guarantor will be subject to credit search references and, in most cases, evidence of a steady income must be provided before a guarantor is accepted. However, some loan companies don't even check whether the guarantor can afford to pay the debt.

A guarantor is different from a co-signer. Co-signers are a contracting party to the loan contract. Consequently, they are responsible for the repayment of the entire debt along with the borrower and bear the same financial and legal consequences as the borrower, as if they had taken the loan out themselves. On the other hand, a guarantor is not liable to pay or forfeit anything unless the borrower defaults, since they have signed the contract of guarantee, not the loan contract.

What is a contract of guarantee?

A Contract of Guarantee is a written promise by the guarantor that the borrower will keep to all the terms and conditions of their contract. If the borrower does not do so, the contract of guarantee will require the guarantor to pay the credit provider all the money owing under the credit contract as soon as it is asked for.

Signing a contract of guarantee does not mean that you are witnessing a document to say that the borrower is of good character. It means that you are consenting to being made personally liable for the borrower's contractual commitments.

Don't rush into anything that you are unsure about. Before you sign the contract of guarantee, you should consider the overall desirability of the transaction, particularly if the guarantee is to be supported by a mortgage over your home or other assets. Be mindful of the fact that your capacity to borrow will be diminished once you sign up as a guarantor.

Before you sign the contract of guarantee, you should protect yourself by:

reading the contract thoroughly and noting anything you don't understand;
checking whether the borrower has been or is in default on any credit arrangement;
finding out about the borrower's financial position; and
getting independent legal or financial advice.

Under the Consumer Credit Code, a contract of guarantee must contain a warning notice set in a box on the same page that you sign. It advises you to read the contract and the Information Statement that the lender must give you before you sign.

It is possible to change your mind about being a guarantor for someone after you sign. However, this can occur only under the following circumstances:

Before the borrower receives any of the money under the contract.
Before you receive a notice from the credit provider informing you that the contract of guarantee has been acknowledged and accepted.
At any time, if the final credit contract that affects your liability differs in any way from the contract you received before you signed.

Types of guarantees

Before you sign a guarantee, you should find out what type of guarantee you are signing. There are three different types of guarantees:

Specific or fixed. These guarantees cover a fixed amount of money agreed upon at settlement (eg. a home loan).
Continuing. This guarantees covers a continual amount of money or ‘line of credit' (eg. a credit card). A continuing guarantee means you agree to be accountable for payment of a particular type of loan for as long as the guarantee lasts.
All-accounts. These guarantees cover past and future, actual and contingent indebtedness of the borrower, including money owing for overdrafts, credit cards, chattel leases and even guarantees that the borrower has given. Lending companies use this type of loan agreement most often.

You can specify to the lender that you will be a guarantor only if you can limit your guarantee to a specified amount of money, and/or for a limited amount of time. Make sure such limits are written into the contract. However, bear in mind that the whole reason that the lender requires you to be a guarantor is because the borrower cannot provide sufficient security for the loan on their own. If you limit your guarantee, the lender may then refuse to loan the money.

The lender may require either a secured or an unsecured guarantee:

A secured guarantee means that the lender requires you to pledge collateral (assets) to secure your guarantee. If the borrower defaults and you are unable to pay the debt, a secured guarantee enables the lender to recover money owed by selling your assets.
An unsecured guarantee means that the lender does not require you to pledge collateral to make your guarantee more secure.

If you provide an unsecured guarantee, your assets are still at risk for payment of the debt. However, before the lender can sell your assets to recover the debt, they must get a court judgement against you.

Do not list any item as security that:

does not belong to you;
is of significantly larger value than the debt owing;
is on hire-purchase; or
is already listed as security for another loan or guarantee.

What information should a guarantor get?

As set out under the Consumer Credit Code, the credit provider must give you a copy of the contract document of the credit contract before you sign the Contract of Guarantee. (A guarantee is not enforceable otherwise.) This document sets out the amount of money taken out by the borrower and the credit charges involved. In addition, the credit provider must supply you with a document outlining your rights and obligations as a guarantor.

Within 14 days after you sign the contract, the credit provider must give you a copy of the Contract of Guarantee, as well as a copy of the credit contract itself.

Ensure that the lender keeps you informed in writing of all activity on the loan. This can help you see a problem developing and correct it before it is too late. You should insist on a copy of every document you sign.

What happens if the borrower defaults?

If the borrower defaults and the credit provider wants to take legal action against them, a notice will be issued to the borrower explaining why the lender wants to take legal action and what the borrower can do to stop it. As guarantor, you will also get the same warning.

The borrower has at least one month to try to fix the problem. You should discuss the matter with the borrower immediately.

The credit provider cannot take action against you alone unless:

the borrower cannot be found; or
the borrower is bankrupt; or
a court has given permission.

If the borrower cannot be found and the credit provider intends taking legal action against you, you will get at least 14 days warning. You will have to pay what the borrower owes, plus the credit provider's costs in having you honour your Contract of Guarantee.

In the event that the borrower defaults, the lender can decide to pursue the guarantor in place of taking action against the borrower or foreclosing on the mortgaged properties. To safeguard against this occurring you must insist that the Contract of Guarantee requires the lender to exhaust all steps against the borrower before pressing you to pay.

What can you do if you can't pay?

If you are called upon to honour the Contract of Guarantee and you cannot make repayments due to sickness, unemployment or some other reasonable cause, contact the credit provider immediately. If you believe that you could meet your obligations under your contract if you were allowed to make smaller payments over a longer period or if payments were postponed, you can negotiate with the credit provider for your contract to be changed.

If this proves unsuccessful, you may apply to the Commissioner for Consumer Protection for a variation of your Contract of Guarantee. The Commissioner will obtain the views of the other parties to the contract and then decide whether or not to arrange a variation of your contract with the credit provider. If the Commissioner seeks a variation but is unable to help you, your application will be referred to the State Administrative Tribunal. The Tribunal will review the application and order, or refuse to order, a variation of the contract.

If you pay out money for a borrower, you can try to sue the borrower to get your money back. But if the borrower could not repay the credit provider, he or she is unlikely to be able to repay you. If the borrower you went guarantor for was a minor (ie. under 18 years of age) when they signed the credit contract, you may not be liable for the full debt if your Contract of Guarantee did not include a clear and obvious warning that the courts may not let you sue the borrower if you have to pay out the credit contract on their behalf.

Guarantor's checklist

If you are asked to guarantee a loan, check whether the contract:

Tells you the situations in which you will have to repay the loan.
Outlines how long you must act as guarantor.
Allows the amount borrowed to be increased without you being told.
Tells you the amount you are guaranteeing (when that amount is known).
Has an ‘acceleration clause' (most loan contracts have one). This allows the lender to demand immediate payment of the whole loan – not just the arrears or missed payments – if the borrower breaks any part of the agreement. Therefore, just one missed payment could mean the guarantor must pay the whole loan immediately.

Ask:

Why does the borrower require a guarantor? Are they seen as a bad risk?
Does the borrower have any other means of paying if they lose their income?

Think:

How mature and responsible is the borrower?
Is the borrower being realistic about how much they can afford to repay?
Am I prepared to repay the loan?