Should you be a loan guarantor?

Becoming the guarantor of a loan may seem like a simple gesture for helping someone close to get credit. However, in reality, it creates a binding financial responsibility for a long period. As lenders treat loan guarantors almost at par with borrowers, they hold loan guarantors for repayment defaults. Thus, understanding the implications of becoming a loan guarantor can help protect both relationship and long-term financial well-being.

Asking for guarantee

Lenders usually need prospective borrowers to rope in loan guarantors when they are not fully convinced about the repayment capacity or loan eligibility of the primary and co-borrowers. Situations where the need for a guarantor might arise include huge loan amounts, applicants with risky job profiles, unsatisfactory employer profiles, low credit scores, etc. Including a guarantor in such cases reduces credit risk for the lender, providing an additional layer of protection. Factors to be considered before becoming a loan guarantor include:

Guarantor’s credit profile check

As the guarantor would be held liable for loan repayment in case of default by primary and co-borrowers, lenders would check the credit profile of the individual proposed as loan guarantor. As in the case of primary and co-applicants, lenders may consider income, credit score, repayment capacity, job and employer profile, etc. of the proposed guarantor to evaluate his eligibility as a guarantor.

Contingent liability

Becoming a loan guarantor would make one equally liable for ensuring timely repayment. Thus, if the primary and co-borrower(s) of a loan fail to repay EMIs by due dates, then the lender can demand the guarantor to repay the outstanding loan amount as well as the applicable penal rates and other charges for non-repayment.

Thus, if you are agreeing to sign in as the loan guarantor, try to persuade the primary as well as co-applicant(s), if any, to opt for loan protection insurance plans.

These policies cover contingencies arising due to the death or disability of primary/co-borrower of the loan. Note these insurance plans do not cover repayment defaults caused by other reasons.

Impact on guarantor

The contingent liability of repaying the loan EMIs in the event of default by the primary and co-borrower(s) adversely impacts the future loan eligibility of a loan guarantor.

Once a person signs in as a loan guarantor, his own loan eligibility would get reduced by the outstanding amount of the loan. Thus, prospective loan guarantors should carefully assess his own loan requirements in the short and mid-term before signing as a loan guarantor.

Guarantor’s credit score

Any delay or default in repayment of the loan EMIs would adversely impact the credit score of the loan guarantor as well. Thus, always evaluate the financial condition of the primary and co-borrower(s), if applicable, before guaranteeing a loan. You can also ask the primary borrower and co-borrowers to share their credit reports to get a fair idea about their repayment track-record and credit discipline. You should avoid guaranteeing loans where the primary borrower(s) have a very poor repayment track-record or lack financial discipline. Once you step in as a loan guarantor, ensure to closely track the repayment activities in the guaranteed loan account.

Guarantor’s credit score

Once you step in as the guarantor of a loan, you cannot withdraw from the responsibilities of a guarantor until the lender and the borrower(s) find a mutually acceptable new loan guarantor. This becomes another reason to carefully assess one’s short and mid-term financing requirements before agreeing to guarantee a loan.

(The writer is CEO of Paisabazaar)