Personal loans are unsecured loans offered by various financial service providers. Due to the risky nature of these loans, they typically come with a high interest rate. In most cases, lenders also ask for a guarantor to take responsibility on behalf of the borrower. It is not very uncommon to see family members and friends co-signing a personal loan as guarantors. People mostly consider it a social obligation to serve as guarantors for their friends and relatives. However, they often fail to understand the implications of providing this guarantee.
As long as the borrower pays the loan amount on time, there is no harm in serving as a guarantor for a personal loan irrespective of the loan amount. However, trouble erupts when the borrower defaults on the loan. Here, the loan burden falls on the guarantor and lenders move against guarantors to get back their loan. Let’s take a look at the factors that must be considered before you decide to serve as a guarantor for a personal loan.
Before we understand the responsibilities of a guarantor, let’s take a look at situations in which lenders seek guarantors for their loans. Banks typically ask for a guarantor when they are not fully confident of the borrower’s ability to repay the loan. This occurs when the credit score of the borrower is lower than the expected limit. In some cases, lenders ask for guarantors even if certain eligibility criteria are not met by the borrower. Other reasons like unstable employment over the last few years, frequent transfers to other cities, too many outstanding loans, etc., are also considered by lenders when they seek an additional guarantee for their loans.
Before providing a guarantee for a personal loan, guarantors must understand the financial and non-financial implications of providing it. The liability of a guarantor is pretty much similar to that of the principal borrower. If the borrower defaults for some reasons, the financial institution (lender) has the legal obligation to collect the outstanding money from the guarantor. Having a guarantor serves as an additional layer of security for lenders. Since the loans are unsecured, an additional guarantee from another party gives them an opportunity to recover their money and mitigate their risks.
In the case of defaults, lenders have the right to take legal action against borrowers as well as guarantors. If the borrower is incapable of paying the personal loan, the court may obligate the guarantor to repay the loan. The monthly income and other assets of the guarantor may also be attached to the loan liability. This is the main reason why banks have specific guidelines about how the financial position of the guarantor must be better than the principal borrower. If the guarantor fails to take up the responsibility, he/she may have to face legal action as well as repercussions.
Serving as a guarantor may also have a negative impact on your credit score. If the principal borrower has defaulted on the loan, the legal liability will affect the credit score of the guarantor as well. Even if you are prompt in making payments for your other loans, your credit score can be negatively impacted by the loan for which you are serving as the guarantor. In the long run, this could also affect your eligibility for other credits. This is mainly because credit information companies (CICs) like CIBIL record information about the guarantors of a loan as well.
The following things must be considered before you become a guarantor for a personal loan:
Becoming a guarantor for a personal loan is not necessarily a bad thing. You may use this opportunity to help your loved one come out of financial trouble. However, always keep the above-mentioned things in mind when you become a guarantor for a loan. If you have signed up already, you need to remind the borrower about timely payments and make sure that both of you stay out of trouble. Once you have decided to become the guarantor, you must accompany the borrower and check out the terms and conditions of the loan. This will help you avoid unnecessary legal troubles. You must also advise the borrower to do thorough research before choosing a particular loan product.