Borrowers with a small deposit will often have trouble obtaining finance for a property purchase. Some parents assist their children by offering them a gift of cash. An alternative to this is a Parental Guarantee also known as a Security Guarantee.
Most lenders will lend upto 80% of the value of a property without requiring Lenders Mortgage Insurance (LMI). However, in some cases, it is possible to avoid LMI, by using the equity of a parent’s property to obtain a loan. Parents who have an unencumbered property or ample equity in their own property may offer this as additional security.
Borrowers with a small deposit can use the equity of a parent’s property. In many cases this will result in a reduction or cancellation of Lenders Mortgage Insurance (LMI) and can literally save thousands. The example below shows how a Parental Guarantee can save $6,000 in Lenders Mortgage Insurance (LMI).
A 1st or 2nd Mortgage must be taken over the parent’s property. This puts their property at risk and may limit their ability to raise funds for their own finance requirements. Independent financial & legal advice is always recommended.
Release from Parental Guarantee
Parents can be released from the Parental Guarantee with approval from the lenders and all parties to the loan. In normal circumstances the loan can be released by:
• Substitute security with other security or cash
• Repay the loan - to acceptable Lending Ratios (ie normally 80%)
• Revaluation of the new property - to acceptable Lending Ratios (ie normally 80%)
Loan Structure is important
Where possible the loan structure should minimise the exposure to the parents and allow the parents to be released from their guarantee as soon as possible. Some suggestions for this include:
• Parents are Guarantors to the loan – not the borrower
• Obtaining a “Limited Guarantee” for the Guarantors
• Exposing the Parents to the small loan only (ie in our example just the $40,000 loan)
• Accelerate repayments – returning the loan to acceptable lending ratios more quickly
• Get the property revalue every few years
With a proper structure and a good plan – a parental guarantee can be released in a few years.