What is a Financial Guarantee?

What is a Financial Guarantee?

A financial guarantee is a type of promise given by a guarantor to take responsibility for the borrower in the case of default in payments to the lender or investor. Generally, insurance companies give a guarantee to back the debt of large corporations (the borrower) in payments to the market (the lender).

 

To understand financial guarantee better, let us assume that a company ABC promises to back the loan availed by its subsidiary company XYZ. In such a case, company ABC will be required to pledge assets that can cover the debt if company XYZ defaults payments to the ultimate lender. A financial guarantee will also increase the borrowing company's credit rating.