George’s guarantee glitch

In July 2016, George, a pensioner, agreed to guarantee his son Paul’s $2,000 loan. Paul defaulted almost immediately on his weekly $180 repayments. When the lender could not locate Paul, the lender advised George of its intention to repossess his car, which was security for the loan. George could also not locate Paul, and then complained to FSCL.

George claimed the lender did not enquire into whether he could afford to guarantee Paul’s loan, explain the key aspects of the guarantee, or the potential consequences of guaranteeing the loan. George said if the lender had taken these steps, he would never have provided the guarantee. He said he would be prepared to pay the frozen principal ($2,000), if he could pay by instalments.

The lender’s file notes indicated it had gone through the implications of providing a guarantee with George and had advised him he could seek legal advice. The lender also had three-months’ worth of bank statements it had relied on in deciding George could afford to guarantee the loan. With his only income being national superannuation and existing payments including mortgage and insurance, George would only have had $101 per month to cover all his other basic living costs if he had been called upon to pay the guarantee at $180 per week.

We suggested the lender consider releasing George from the guarantee on this basis.

The lender’s view

The lender did not agree to release George from the guarantee. The lender claimed it had explained to George that $180 would be a high amount to repay given his income, and George gave the guarantee despite this. In other words, the lender considered the onus was on George to not give the guarantee if he could not afford it.

The lender also said the credit contract provided safeguards because it allowed for George and the lender to enter into a reduced payment arrangement, if that became necessary.

The lender said it would allow George to make payments at less than $180 per week if this meant he would pay the debt. By this time, with fees and interest added (and continuing to be added), the debt had increased to $3,500.

FSCL’s view

We found the lender should never have taken George’s guarantee.

It was clear George could not afford to provide the guarantee when he would only have $101 left per month for basic necessities. In our view, the lender had breached a key responsible lender’s obligation under section 9C(4)(a) of the Credit Contracts and Consumer Finance Act 2003 (CCCFA). That section states lenders must ensure they undertake reasonable enquiries before a guarantee is given, to be satisfied that the guarantor will be able to comply with the guarantee without suffering substantial hardship.

The Responsible Lending Code provides helpful guidance on what ‘substantial hardship’ means. The Code says a guarantor can afford to provide the guarantee without suffering substantial hardship if the guarantor can make payments without undue difficulty, and meet necessities, while also meeting other financial obligations without having to realise security or assets. George’s circumstances did not meet that definition.

We reminded the lender that the lender responsibility principles placed a fundamental obligation on the lender to ensure George could afford to provide the guarantee without suffering substantial hardship. This stands regardless of whether the guarantor is prepared to provide the guarantee.

We thought George should be put back in the position he would have been in if the lender had not breached the CCCFA and that the lender should release George from the guarantee. This was particularly because George never received any benefit from the $2,000 loan to his son, Paul. The lender could continue to pursue Paul for payment of the debt.

We also noted the lender had indicated it considered it acceptable for George to provide the guarantee, despite him not being able to afford to, because there were unforeseen hardship mechanisms available to him under the credit contract and the CCCFA. However, George’s inability to pay the guarantee was not based on any unforeseen hardship (for example loss of a partner or income, or sickness). Rather, George’s hardship was foreseen, because he could not afford to provide the guarantee to begin with.

Resolution

Under sections 93 and 94 of the CCCFA, if a lender breaches any of the provisions of section 9C of the CCCFA, one of the remedies is that the lender has to reimburse the person who suffered a loss as a result of the lender’s actions.

We said that if the lender were to continue attempts to enforce the guarantee and seek payment from George, he would be suffering a loss as a result of the lender’s breach of section 9C(4)(a) of the CCCFA. The lender would then be required to refund all amounts it had recovered from George. On this basis, we considered the best course of action was for the lender to immediately release George from the guarantee.

The lender accepted our view and agreed to release George from the guarantee immediately, resolving the complaint.

Our insight

The lender thanked us for our letter explaining our findings. It said the complaint had presented an excellent opportunity to completely review its processes surrounding guarantors. This case is a great example of the value of complaints for businesses – complaints often highlight where process improvements can be made.

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