Many young people turn to the “Bank of Mum and Dad” to help buy a first home. By using their own home as security to guarantee part of the deposit, parents are helping their children get into a first home much sooner. If you’ve been asked to step in and act as guarantor, it’s important you understand just what it is you’re guaranteeing, and how it could impact your own financial position.
Understanding the risks
Parents who choose to act as guarantor, use their own home as security to cover the shortfall for a first home buyer deposit.
For example, if the borrower has only managed to save 10 per cent but still needs another 10 per cent to avoid Lenders’ Mortgage Insurance or to get finance approval, the guarantor may choose to guarantee the other 10 per cent using their own home as security for the loan.
But many guarantors aren’t aware that lenders treat anyone guaranteeing a loan as a liable party. So even if you’re only guaranteeing part of the deposit, the lender may still require you use the equity in your own home to repay the debt if things go wrong.
What that means is that if the borrower defaults on their home loan, you could be liable to repay the entire mortgage, not just the deposit amount you agreed to guarantee. Any additional borrowing – like increases to the mortgage, personal loans or credit cards linked to the home loan – could also end up being the guarantor’s liability.
If you are going to step in as guarantor, it’s important you protect yourself:
- Make sure your child is trustworthy and capable of repaying the loan.
- Get legal advice and draw up a property share agreement to outline all conditions of the guarantee.
- Consider using other assets you may have as security instead of your home.
- Calculate whether you can afford to repay the loan if your child defaults.
- Have an exit strategy – know when you will stop being guarantor.
Know the rewards
Having a guarantor can make a huge difference to first home buyers who are struggling to save a deposit, especially in a heated property market when house prices are rising faster than you’re able to save.
By having a guarantor, borrowers may be able to borrow the full purchase price and potentially avoid having to pay Lenders’ Mortgage Insurance (LMI), which lenders charge for home loans greater than 80 per cent of the value of the property.
But being guarantor is not without its risks. Instead of guaranteeing, a safer option is to lend or gift your child the shortfall they need to make up their deposit. That way you won’t be responsible for any defaults, so your risk is controlled, but you’re still helping them get into the property market much sooner.
We’ve outlined a few home loan options for first home buyers in a recent blog, including information about the First Home Loan programme and accessing KiwiSaver and the First Home Grant Deposit Subsidy.
But we can also help tailor an appropriate borrowing plan to suit your exact requirements. Get in touch with our team of mortgage advisers to find out how you can help your children buy their first home.
While all care has been taken in the preparation of this publication, no warranty is given as to the accuracy of the information and no responsibility is taken by Mortgage Express Limited for any errors or omissions. This publication does not constitute personalised financial advice. It may not be relevant to individual circumstances. Nothing in this publication is, or should be taken as, an offer, invitation, or recommendation to buy, sell, or retain any investment in or make any deposit with any person. You should seek professional advice before taking any action in relation to the matters dealt within this publication.
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