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Guaranteed Loan: Definition, How It Works, Examples
By Julia Kagan
Updated October 20 20, 2021
Written by Thomas J. Catalano
Facts checked by Skylar Clarine
What is a Guaranteed Loan?
A secured loan is one type of loan that an outside party guarantees or takes over the debt obligation for–in the case that the borrower fails to pay. In some cases, a guaranteed loan is backed by a government agency which will purchase the debt from the financial institution lending it and take on responsibility to pay the loan.
Key Takeaways
A secured loan is a form of loan where a third party is willing to pay the loan if the borrower defaults.
A secured loan is a loan that is guaranteed to borrowers who have poor credit or a lack in terms of financial resources; it allows financially unattractive applicants to qualify for a loan and ensures that the lender will not lose money.
Guaranteed mortgages and federal student loans and payday loans are all examples of secured loans.
The guarantee of mortgages is usually provided with the Federal Housing Administration or the Department of Veteran Affairs.12 Federal student loans are backed through the U.S. Department of Education; payday loans are guaranteed by the person who is borrowing the paycheck.3
How a Guaranteed Loan Works
A guaranteed loan arrangement can be negotiated when a borrower is an unattractive candidate for a bank loan. It’s a method to help those who require financial assistance to secure the funds they require when they might not be able to obtain them. This guarantees that the lending institution will not incur excessive risk in making these loans.
Different types of Guaranteed Loans
There are a variety of guaranteed loans. Some are safe and reliable methods of raising funds, while others carry risks that may include large interest charges. The borrower should be aware of the conditions of any guaranteed loan they’re considering.
Guaranteed Mortgages
A prime example of a guarantee loan is a guaranteed mortgage. The third party that guarantees these home loans in most instances will be The Federal Housing Administration (FHA) or Department of Veterans Affairs (VA).12
Buyers who’re considered risky borrowers–they aren’t eligible for a conventional mortgage for instance, or do not have enough down payment and have to take out a loan that is close to 100percent of the house’s worth–may be eligible for a guarantee mortgage. FHA loans will require borrowers pay mortgage insurance to protect the lender in the event that the borrower fails to pay their home loan.1
Federal Student Loans
Another kind of secured loan is a federal student loan that is backed by an agency of the federal government. Federal student loans are the simplest student loans to qualify for–there is no credit check for instance. They also have the most favorable terms and the low interest rates due to the fact that they are guaranteed by the U.S. Department of Education provides them with taxpayer dollars.3
In order to apply for federal student loan you must fill out and submit the free Application for Federal Student Aid, or FAFSA, each year that you intend to continue to be eligible for federal student aid. The repayment of these loans commences after the student graduates from college or drops below half-time enrollment. A lot of loans also come with an grace period.3
Payday loans
The third type of secured loan is one called a payday loan. If someone applies for the payday loan, their paycheck plays the role of the third party who guarantees the loan. A lending institution offers the borrower an loan and the borrower sends an dated cheque that the lender then cashes on the same date, typically two weeks after. Sometimes lenders will require electronic access to a borrower’s account to pull out funds, however it is best not to accept an unguaranteed loan in these circumstances, especially if the lender isn’t a bank that is traditional.
Payday guaranteed loans often ensnare borrowers in a cycle of debt with interest rates as high as 400 percent or more.4
The issue of payday loans is that they tend to create the cycle of debt which can cause additional problems for those who are already in tough financial straits. This can happen when the borrower isn’t able to come up with the funds to repay his loan when they reach the conclusion of the typical two-week period. In this case the loan is converted into a new loan with a new set of charges. The interest rates could be up to 400% or more. Lenders generally charge the highest rates allowed under local laws. Some lenders who are not careful may attempt to cash a check from a borrower before the post date, which creates the risk of overdraft.4
Alternatives to payday-guaranteed loans include personal loans that are accessible via local banks or online and credit card cash advances (you can save a significant amount over payday loans even with rates of up to 30%) as well borrowing funds from friend or relative.
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