Are you considering helping your kids get onto the property ladder – whether for their first home or investment property?
Before jumping in and opening the Bank of Mum and Dad, you need to ponder the pitfalls as parents do this at their peril.
Each method of parental assistance has its risks and problems.
Loans and gifts
Generally, parental assistance is a loan or gift to help with a deposit.
Typically, a loan will be interest free – often expressed repayable on demand in case the child gets into relationship difficulties, so the money may be called back.
But a loan repayable on demand becomes unenforceable automatically after your State’s or Territory’s limitation period.
For unsecured personal loans, it’s six years (three in the Northern Territory) from the date the debt becomes due – day 1 for a loan repayable on demand. In Western Australia, the limitation period begins when a demand is made.
If the loan is interest free, you’re missing out on the opportunity cost of having the cash invested – potentially reducing your lifestyle.
Even where you have a loan agreement, the bank may require a statutory declaration stating your money was provided as a gift (not a loan) before it lends money to your child. This jeopardises your asset protection and defeats the purpose of setting it up as a loan in the first place, because with evidence of it being a gift, your child’s spouse or de facto partner may lay claim to it in the division of property.
You can gift money to your child – or forgive a loan after a period or automatically on your death.
Where you make a gift to your child and you’re on government income support payments, the amount is subject to Centrelink gifting and deprivation rules, and your interest free loan is deemed under the income test, which may impact your payments.
Hiding money with your kids and not telling Centrelink is illegal.
If the loan won’t be repaid by the time you die, you need to think about how to deal with it in the division of your estate where there’s other children who may not have received the same level of support.
What happens if there’s insufficient estate assets to ‘balance things up’ with other children by making compensatory gifts to them?
How do you compensate for the benefit of interest forgone on the loan?
Guarantees
Generally, parents who don’t have the cash to lend or give to their child go guarantor for the child’s bank borrowing.
If you go down this path and the child defaults, you could be up for repayment of the outstanding loan with accrued interest, fees and late payment penalties.
Often, you’ll be required to provide security for the guarantee by way of mortgage over your home – so, in a worst-case scenario you could lose your home if your child defaults.
It may impact your estate plan. How do you even things up with other children in your will if your home (often the major estate asset) is unavailable for equalisation purposes?
There’s another option that may address many of these issues.
Co-ownership
Rather than gifting or lending money, you could become a co-owner with your child as a legal ‘tenant in common’.
For example, if they need a 20 per cent deposit and can borrow the rest, you take a 20 per cent interest in the house as co-owner, with your child – and maybe their spouse or partner – buying the other 80 per cent.
You receive something tangible in return for your support.
Co-ownership means your child cannot sell the property – after you’ve provided funds for its purchase – without your consent.
It’s an asset you can pass in your will – even leaving it to the child who is co-owner (especially if they’re living there), while adjusting your will so that other children receive equalising value from other assets.
If there’s insufficient estate assets, you could leave your interest to other children.
Alternatively, if your other children are financially independent, your interest could be left to grandchildren.
It’s the most transparent type of support you can give a child – at any time, anyone can do a title search to check your interest and share of that interest.
You can determine the market value of your interest at any time via a local real estate agent or real estate website.
You could even charge your child a proportionate amount of rent for the use of your interest in the house, but this would be difficult from a cashflow perspective for a child who’s making hefty mortgage repayments.
Regardless, you still share in any capital appreciation of the property.
Importantly, all parties should enter into a co-ownership agreement dealing with issues such as sharing income and expenses of the property, and what to do if one party wishes or needs to sell their interest, e.g. due to disagreement, death or divorce.
For example, the remaining co-owner(s) may have first right of refusal to buy out the exiting co-owner at the prevailing market value.
Problems
The value of your interest is counted as an asset for Centrelink purposes.
Also, your interest is subject to the vagaries of the property market which may complicate how you seek to equalise the inheritances of other children under your will.
Should you suffer a crisis, e.g. bankruptcy or divorce, requiring your interest to be sold, your child may be forced to sell at an inopportune time – terribly disruptive where they’ve established themselves in their local community and unlikely to be able to re-purchase in the same neighbourhood.
And there’s tax implications – your interest may attract land tax and capital gains tax if the property is later sold for profit.
Notwithstanding these potential problems, becoming a co-owner with your child may be a better option where the risks and challenges of making a loan or gift, or going guarantor, are too great.
