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All About Unsecured Guarantor Loans
February 22, 2020

All About Unsecured Guarantor Loans

If you haven’t established a strong credit history, your financing options will be restricted. However, that doesn’t mean there aren’t attractive alternatives. Unsecured guarantor loans provide a path for borrowers with limited or poor credit histories. Due to the way these loans are structured, even a borrower without a credit history or assets can get approved. Still, you’ll need a close friend, partner, or family member to guarantee the loan.

In this post, we’ll explain what these loans are, so you can fully understand this type of financing.

First Things First: What Is An Unsecured Loan?

To understand this type of financing, we need to explain what an unsecured loan is.

Every loan that exists is either secured or unsecured. A secured loan is one that requires collateral, which can be just about anything of value. Typically, property, vehicles, and other high-priced items are used for collateral.

On a secured loan, if the borrower can’t make their payments, the lender can take ownership of the collateral. This protects the lender because even if the borrower can’t pay, the lender will have something of value.

An unsecured loan is just the opposite. With unsecured loans, there’s no collateral. The lender has no legal right to your assets. However, they can still put your account into collections and sue you to recoup the debt.

Since there’s no collateral to “secure” an unsecured loan, there’s more risk for the lender. All they have to rely on is your credit history. As a result, unsecured loans are typically more expensive.

In addition, because unsecured loans consider your credit history, lenders are less likely to approve a borrower with poor credit history. However, a guarantor can change that.

What Does Guarantor Mean?

A guarantor is someone who supports a borrower and agrees to be financially liable in the event of nonpayment.

This individual can be a partner, friend, or family member with a strong credit history and financial stability. They must be at least 21 years old. Also, your business, or someone else’s, could be considered a guarantor.

Essentially, the guarantor agrees to be held liable if the borrower doesn’t pay. For the lender, this reduces the risk of lending to a borrower with poor credit. As a result, they lender won’t charge higher rates to compensate for the primary borrower’s risk profile.

A guarantor can also help someone who has a low salary, few assets, or is otherwise financially unstable. While credit history is a critical factor in obtaining an unsecured loan, salary and assets matter too.

It’s also worth noting that a guarantor doesn’t have to be involved for the duration of the loan. Often, they’ll terminate their obligation after a prespecified term. Of course, this will be detailed in the loan agreement.

Putting It All Together: What Is An Unsecured Guarantor Loan?

Essentially, an unsecured guarantor loan is simply an unsecured loan that’s backed by a guarantor. In other words, it’s a loan that:

  1. Isn’t secured by collateral.
  2. Has been guaranteed by someone with a strong credit history and financial stability.

Any loan that meets these two constraints is an unsecured guarantor loan. However, this doesn’t mean all unsecured guarantor loans are the same. Depending on the specific loan product you’re looking at, there will be significant differences.

For example, not all guarantees are the same. Where one guarantor might guarantee the entire loan, another might only guarantee a portion of the loan. Assuming all else is equal, making a partially guaranteed unsecured guarantor loan is riskier than if it’s fully guaranteed.

Due to this, the partially guaranteed loan will be typically more expensive since the lender must compensate for the additional risk.

It’s important to note that having a co-signer doesn’t make it a guarantor loan. Co-signers have different rights and financial responsibilities than guarantors.

For example, the guarantor is only financially liable once the lender has exhausted all collection methods against the primary borrower. Conversely, a co-signer is treated like a second borrower in the event of nonpayment.

Similarly, if the loan is secured by collateral, it’s not an unsecured guarantor loan. Instead, it would be considered a secured guarantor loan.

Consumer Demographic Considerations

Whether or not an unsecured guarantor loans is a good fit for you depends on the type of consumer you are. Generally, these loans are meant for anyone who would be denied traditional financing.

For example, people with poor credit usually benefit from an unsecured guarantor loan. This could also include borrowers who are seeking payday loans, or similar short-term financing options.

However, pursuing an unsecured guarantor loan doesn’t necessarily mean that you’re financially unstable.

For example, immigrants and young people may not have had the opportunity to build their credit history. Although they may have savings and a solid income, it’ll be difficult for them to get approved for traditional financing. In this way, adding a guarantor opens up financing that otherwise wouldn’t be available to certain borrowers.

For someone who could get approved for traditional financing, unsecured guarantor loans don’t make much sense. After all, that person will likely get approved for an unsecured loan with comparable (or better) rates and larger loan amounts.

In addition, they wouldn’t have to deal with the potential complications of identifying a guarantor. As you can see, these loans are meant for specific consumer demographics.

Advantages of Unsecured Guarantor Loans

  1. Less Strict Prerequisites

To qualify for most unsecured loans, you need a solid credit score. Without one, you’re unlikely to get approved. However, a main benefit of unsecured guarantor loans is that individuals with limited credit history or poor scores can still qualify.

Provided you have a guarantor with a high credit score, your credit history won’t be too important to the lender.

  1. Competitive Pricing

As mentioned, having a guaranteed loan reduces risk for the lender. In turn, the overall price of the loan will decrease. Compared to other financing options for borrowers with bad credit, unsecured guarantor loans will be competitive in terms of price.

  1. Larger Loan Amounts

The relatively lower risk profile of a guarantor loan helps borrowers qualify for larger loan amounts. So even though you may qualify for a smaller unsecured loan without a guarantor, adding one unlocks even more funding.

  1. No Need for Collateral

Instead of relying on collateral, the lender holds the guarantor’s credit score as proof that the loan will be repaid. If you don’t have assets to secure a loan, or don’t want to risk them, this can be beneficial.

Potential Downsides of Unsecured Guarantor Loans

  1. Potential Negative Impacts on Your Relationship with the Guarantor

When someone guarantees a loan for you, your financial fate is intertwined. If problems arise and you’re unable to pay, this can cause significant tension.

  1. Risks to the Guarantor

Being a guarantor comes with significant financial risks. If the borrower doesn’t repay the loan, the guarantor must make up the difference. Plus, the default will show up on the guarantor’s credit report too, which will hurt their credit rating.

  1. The Borrower Must Divulge Private Details

If you find a guarantor, you must be open with them about your ability to pay. Depending on the guarantor, they may want to see your personal financial data to verify this information.

For many borrowers, divulging this type of private information can be uncomfortable.

  1. Interest Rates Can be High

These loans are more affordable than some financing options available to borrowers with low credit. However, that doesn’t mean they’re more affordable than traditional financing options, like a secured business loan.

Funding Alternatives

These loans are typically best suited for borrowers with less-than-ideal credit histories. Therefore, if you’re seeking this type of loan, assume that any alternatives need to be lenient about credit scores too.

With that in mind, your financing options include:

  1. Merchant Cash Advances

A merchant cash advance (MCA) isn’t a loan. Instead, you sell a portion of your future credit card sales in exchange for an upfront lump sum. Due to this, a low credit score won’t prevent you from qualifying.

  1. Invoice Factoring

With invoice factoring, you sell your invoices at a discount in exchange for a lump sum. Again, your credit score isn’t considered important, as the factoring company will review the value of your invoices.

  1. Equipment Financing

Credit scores factor into whether you get approved for equipment financing or not. However, the required credit score is typically lower than it would be with traditional financing. Of course, you can only utilize this financing for business equipment.

Final Thoughts

From a financial perspective, unsecured guarantor loans are an attractive option if your credit isn’t perfect. Still, there are non-financial factors to consider. If you’re unable to pay, your guarantor can be held legally responsible, which could significantly damage your relationship with them.

Moreover, even if you repay your loan on time, the arrangement can add stress to your relationship with your guarantor.

Still, that doesn’t mean this loan isn’t right for you. It just means you and your guarantor need to be aware of and discuss the risks.

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Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.

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Fora Financial is a working capital provider to small business owners nationwide. In addition, the Fora Financial team provides educational information to the small business community through their blog, which covers topics such as business financing, marketing, technology, and much more. If you’d like to see a topic covered on the Fora Financial blog, or want to submit a guest post, please email us at [email protected].