What is a guaranteed loan?

Guaranteed loan definition

A guaranteed loan is financing in which a third party agrees to repay the debt obligation if the original borrower defaults. This third party can be an individual, a corporation or even the government.

Aside from guaranteed mortgages, other guaranteed loans include government-backed student loans and loans supported by the guarantee of an individual, such as a friend or family member of the borrower.

Guaranteed loans can help those with poor credit or limited financial resources obtain financing. The guarantee allows lenders to recover some or all of the loan funds if the borrower defaults, so lenders can make loans they would otherwise shy away from.

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Guaranteed mortgage vs. non-guaranteed mortgage

The primary difference between a guaranteed and non-guaranteed mortgage is that your lender has an additional repayment source with a guaranteed mortgage. Both types of mortgages are secured by real estate, and your home is at risk of foreclosure if you don’t pay as agreed.

With a non-guaranteed mortgage, there are two potential repayment sources: the borrower’s regular payments and the sale of the loan’s collateral, i.e., the home.

A loan guarantee provides the lender with a third source of repayment. This third source of repayment offsets some of the lender’s risk since the guarantor promises to repay some or all of the loan if the borrower defaults. As such, it allows riskier borrowers to receive better rates and terms on guaranteed mortgages than they could qualify for with conventional mortgages.

How does a guaranteed loan work?

No matter what type of guaranteed loan you get, the third-party guarantor agrees to repay some or all of your loan if you default.

Guaranteed loans are often used by borrowers who can’t qualify for a loan on their own or want to get better rates and terms than they could otherwise get. For instance, federal student loans have no income or credit score requirements. And people with bad credit may be able to get a government-guaranteed mortgage.

When evaluating your loan application, lenders consider your financial condition, credit, any collateral you can offer and the level of support any guarantors provide. Since a loan guarantee provides another source of repayment aside from your own cash and collateral, it may allow you to get the financing you would be unable to get independently.

If you don’t repay your loan as agreed, your lender may:

• Seize the loan’s collateral
• Sue you for the deficiency balance after the proceeds of the collateral’s sale are applied to your loan
• Attempt to recover the loan balance from the guarantor
• Pursue all of these actions

The lender’s options depend on your state’s laws and the guarantee’s structure. Some states limit the number of actions a lender can take against a borrower, and some guarantees limit the amount of funds that a lender can recover from the guarantor.

How does a government-guaranteed mortgage work?

Getting a government-guaranteed mortgage is pretty similar to securing a traditional mortgage. You just need to apply through a private mortgage lender that offers the type of government-guaranteed loan you want.

Each type of government-guaranteed loan has its own eligibility requirements. While these standards are usually more flexible than a conventional loan, you still must meet them to qualify.

With a government-guaranteed loan, the mortgage lender’s investment is protected by a third-party government agency or department. This means that even if the borrower stops making payments, the lender will get paid back at least a portion of its money.

Depending on the loan type, a government-guaranteed mortgage might have features like:

• A low minimum down payment
• A low interest rate
• Subsidized closing costs

Types of guaranteed mortgages

Several government entities, including the U.S. Department of Agriculture (USDA), the Department of Veterans Affairs (VA) and the Federal Housing Administration (FHA), guarantee mortgages. Each sets its own requirements and underwriting standards.

How to get a guaranteed mortgage

The steps you’ll take to get a guaranteed mortgage are very similar to the steps you’ll take for any other type of mortgage. The main difference is that you’ll need to find a lender that offers the specific type of mortgage you’re trying to get.

To get a guaranteed mortgage, you should:

1. Search for a lender that offers the type of guaranteed mortgage you want (FHA loan, VA loan, etc.).
2. Apply for preapproval online by submitting personal details (name, taxpayer identification number, etc.), providing income documents (tax returns, bank statements, pay stubs, etc.) and selecting the repayment term you want.
3. Submit an offer on the property you’ve chosen.
4. Formally apply for the mortgage with your lender and pay any required fees, such as appraisal fees.
5. Upon final approval, pay closing costs and sign the loan documents.

Bottom line

If you’re eligible, a guaranteed loan can be a life-changing opportunity to help you get into a home you might not otherwise qualify for on your own. These types of mortgages are typically guaranteed by federal agencies and offer low (or no) down payment requirements, favorable interest rates and flexible credit score requirements.

Government-guaranteed mortgages aren’t for everyone, though. If you have enough savings to make a large down payment and your credit score is strong, you might pay less over time with a conventional mortgage. Whatever your circumstances might be, you should explore all your mortgage options and work with a reputable lender that offers loans suited to your borrower profile.