What is a Family Guarantee?

For many first home buyers trying to enter the market, saving the deposit is the hardest part. With sky-high rents and increasing cost of living, saving up even a 5% deposit can be challenging.

This challenge becomes a downward spiral. The longer it takes you to save your deposit, the more house prices increase. You finally reach your savings goal and you realise it’s not enough anymore.

Your options are fairly straightforward;

1. Keep saving money and wait to buy, hoping you don’t get priced out of the market
2. Use the government’s 5% deposit scheme if you’re eligible
3. Pay Lender’s Mortgage Insurance (LMI)
4. Use a Family Guarantee

Family Guarantee goes by a lot of different names, such as; Family Pledge, Limited Liability Guarantee, and Security Guarantee. 

To understand the purpose of a guarantee, you’ll need to understand the basic principles of lending and security.

When you buy a property and take a loan from the bank, the amount of the loan is compared to the value of the property, this is what we call the Loan to Value Ratio (LVR).

In most cases, when your LVR is above 80% (i.e. you borrow more than 80% of the value of the property) you must pay Lenders Mortgage Insurance (LMI).

LMI is an insurance policy that protects the bank in case you don’t pay your loan, and the sale of your property does not cover their loss. You are responsible for paying for the insurance policy and it’s generally a once off payment at the beginning of the loan.

Example;

• Purchase price $500,000
• Loan Amount $400,000 = LVR 80% (No LMI Payable)
• Loan Amount $450,000 = LVR 90% (LMI Payable)

LMI can be expensive, and you might want to avoid paying it if you can. Having a 20% deposit is one way, but what if that’s not possible or it’s going to take you too long? Using the government’s 5% deposit scheme is another way, but what if you’re not eligible?

This is where a Family Guarantee might be an option. In this scenario, an immediate family member (usually a parent), provides part of their home as security for your loan. This reduces the risk to the bank, negating the need for LMI.

The Guarantee is only relating to the security, so you must be able to service the full loan amount with your income.

A Guarantor must be willing to allow the bank to register a mortgage against their security, and they need to have a plan if something goes wrong. In the worst case scenario, if you default on your loan and the Guarantee is called upon, the Guarantor needs to be able to repay the debt by selling property, using savings, or taking out a loan of their own.

For this reason, it is preferred that Guarantors are have a solid asset position, and are working or receiving income other than government benefits. 

The Guarantee is limited which means that the bank cannot take the entire property value, only the portion that reduces the LVR to 80%.

For example, if you are buying a house for $1,000,000 and need to borrow $900,000, then the guarantee is limited to $100,000.

What are the pros and cons of a Family Guarantee? 

Pros:

• Get into the market earlier and avoid being priced out
• Avoid paying LMI and potentially save thousands
• Family get to help without being a burden

Cons:

• Not everyone wants to get family involved, or family might be willing but not eligible
• Applications can be complex involving multiple securities and extra people
• Guarantors might be required to pay for independent financial and/or legal advice

When is a Family Guarantee released?

A guarantee stays in place until the loan reaches 80% of the value of the property. This can happen two ways;

1. The loan is paid down 
2. The value of the property increases

Once this level is reached, you can then apply for the bank to remove the guarantee.

What information do we need on the Guarantor?

To assess if the Guarantor’s are likely eligible, we would need to know the following information;

• Their relationship to you – e.g. parent, aunt/uncle, sibling
• Their asset position – e.g. real estate, savings, super
• Their income – are they working or retired, are they on a government pension
• The security property – is it their home or investment property, how much is it worth and does it have a mortgage already

All banks have different requirements for the Guarantors and the information they require varies. This gives us a baseline understanding of whether it’s a possibility and which policy it might fit within.