November 06, 2024 by Terry Hinchliffe
Case study: Using a guarantor to buy your first home
By securing a guarantor for their loan, Mitch and Jemma were able
to buy their first home with a smaller deposit – without having to
pay Lender’s Mortgage Insurance.
For first home buyers, Mitch and Jemma, the trickiest part about purchasing a property is
saving up the deposit. Even though they have managed to save $120,000 so far, this
falls short of a 20% deposit required for their desired price range ($800,000 -
$900,000).
Their mortgage broker informs the couple that if they borrow more than 80% of the
property price, their lender will charge them Lenders Mortgage Insurance (LMI) – a
one-off, non-refundable insurance premium that will be added to their loan.
Not wanting to add thousands of dollars to their loan amount, Mitch and Jemma ask their
broker if there’s a different way to get into their own home sooner.
Securing a guarantor
Mitch and Jemma ask Mitch’s parents whether they would feel comfortable providing a
guarantee for their home loan. Having paid off their mortgage years ago, Mitch’s parents
have equity in their home which makes them eligible to be guarantors. Using some of
the equity in Mitch’s parents’ home as security for Mitch and Jeffrey’s mortgage would
enable them to avoid additional costs like LMI. It would also make them a more
attractive prospect to lenders.
The four of them discuss what’s involved in being a guarantor – including the risks that
Mitch’s parents would be taking on. After plenty of consideration, Mitch’s parents decide
they’re comfortable and are happy to play a part in helping their son and his partner buy
their own home.
What are the risks of being a guarantor?
Guarantors use their own home as security for someone else’s mortgage and agree to
take on responsibility for the home loan if repayments can’t be met, so it’s not a decision
to take lightly. Anyone considering being a guarantor should seek independent legal and
financial advice before accepting the role. In fact, most lenders will insist on this prior to
accepting a guarantee.
Making an offer
Soon afterwards, Mitch and Jemma find a two-bedroom apartment close to the
Melbourne CBD that’s on the market for $850,000. They know they will have to put aside
around $35,000 from their savings of $120,000 to cover the purchase costs such as legal
fees and stamp duty. That leaves them with an $85,000 deposit, which is 10% of the
estimated property price.
Without a guarantor, Mitch and Jemma would have a Loan to Value ratio (LVR) of 90%
and most lenders would require them to pay LMI. Depending on the lender, the LMI cost
would likely be around $17,500. However, Mitch and Jemma won’t have to pay this cost
as they have secured a guarantor.
Mitch and Jemma make an offer on the apartment for $850,000 and its accepted.
Setting up the guarantee
Mitch and Jemma broker works closely with the lender and Mitch’s parents to set up the
loan.
Under the guarantee arrangement, Mitch’s parents use $85,000 of the equity in their
property as additional security for Mitch and Jemma's mortgage. This reduces Mitch and
Jemma's LVR to 80%, which means they will not have to pay LMI.
The settlement goes through without a hitch. Mitch and Jemma move into their new
apartment and start making repayments on their loan. They decide to make extra
repayments as often as they can so they can release Mitch’s parents from their
guarantee arrangement as soon as possible.
Several years later, after Mitch and Jemma have paid down some of their mortgage and
built up equity in their property, their broker helps them refinance their loan so they can
remove the guarantee. This releases Mitch’s parents from the loan and removes the
security over their property. It also means Mitch’s parents are no longer liable for the
$85,000 they guaranteed.
Who can be a guarantor?
Guarantors are usually limited to immediate family members. Normally, this would be a
parent, but it can include siblings and grandparents.
Get in touch
If you’re thinking about buying a property and want to know more about how the
guarantor process works, please get in touch with Terry Hinchliffe, Central Coast Mortgage Choice 0459 487 396 or terry.hinchliffe@mortgagechoice.com.au I'd love to help you get into your first home.
