What children, and parents, need to consider before getting help to buy a property.
The bank of mum and dad does an extraordinary amount of lending in the Australian property market.
According to a recent article in The Age, Digital Finance Analytics, report that around 60% of first home buyers seek help from their parents to buy a house. This is no surprise that children need help to buy a home with the price of real estate in Australia.
Before lending money to your adult children, or for children: before you borrow money from your parents; it is useful to consider everybody's current and future circumstances.
Many parents will transfer money to their children at settlement, expecting to be paid back, without understanding that there may not be a legal basis for doing so.
Without documenting a loan agreement, it is considered a gift and you won't be able to get your money back or claim it if needed. Being able to claim the monies will help if your child runs into financial difficulty or separates from a partner.
Financial assistance when buying a home can come in a variety of ways, such as a loan, gift or going guarantor. The thing is, there are risks associated for children and parents with any of these options.
The good news is that there are ways to mitigate these risks and minimise the possibility - or severity of - potential disputes and risks so that parents can help their children in a very safe and a relatively low risk way.
The following are some strategies parents and children might consider when a parent is helping a child to buy a house:
Strategy One: Loan agreement
If money is being advanced by way of a loan, it is absolutely critical that you document the arrangement as if it is an arms-length transaction. Life events that may affect you getting repaid are set out below. The loan should be supported by a first or second mortgage, as applicable, or at the very least come at very least, a caveat. A mortgage is better in most cases.
Strategy Two: Personal Guarantee
If the property is being purchased in a company name, make sure you obtain a personal guarantee from your adult child.
Strategy Three: Gift
This is easy - but once the money had been gifted it has been gifted! You can't later decide to make it a loan and turn it into one as the monies have already been gifted.
Life Events
Parental loans are given in good faith and in good times, but relationships can unfortunately sour. For parents that could mean that the money you give to benefit your child could partially or even mostly and even wholly end up in the hands of someone else!
Relationship Breakdown
In the event of your child having a relationship breakdown, whether or not the relationship is in existence at the time that you loan or gift the monies, an undocumented advance of monies will generally be deemed to be a gift at law. This will mean that you can't scurry around after the fact to try and shore up your position. If the monies were in fact loaned, and then becomes a question of evidence it's approved at.
We have seen legitimate cases where the parties will swear that the monies were always intended to be a loan but due to the lack of documentation, they were deemed to be a gift. Also, it is essentially irrelevant as to whether the two people separating were either in a married or de facto relationship. For family law purposes there is a two-year bracket that applies. In effect if you advance monies in good faith, and with the best of intentions, you are left at risk.
One way of mitigating this risk is for your adult child and their partner to enter into a kind of "prenup", known as a binding financial agreement. A binding financial agreement will set out what property each party has brought to the relationship and that would be a good time also to acknowledge the existence of loan of monies for a house purchase. This does not in any way diminish the need to have a proper loan agreement in place. It does help to substantiates the intention of the parties at the time of the advancing of the loan monies and the purpose of the funds.
Insolvency and Bankruptcy
Loan monies will be somewhat protected in the event of insolvency if you document your loan properly. Again, it is critical that you have a secured interest to ensure that nobody deals with the property, or tries to deal with the property, without you knowing about it. it is important to understand that a "secured" interest will rank in priority, provided the interest is legitimate, over a liquidator's or bankruptcy trustee's entitlement in the event of company or personal insolvency.
Death
This is another life event that parent lenders don't like to consider the possibility of actually happening. Unfortunately, sometimes it does. At the time monies have been gifted, they will simply form part of the estate of the deceased person.
Alternatively, if there is a loan agreement in place, and a secured interest on title, you will be entitled to receive your monies back from the estate. This is important because if there is a relationship and children or dependents involved. The estate monies will not be coming to you unless there are specific wording in the Will. Even then Wills are often challenged by beneficiaries who think they should get more or people have not been named in the will can also make a claim. Most of this risk can be eliminated by proper documentation at the start.
Parents going guarantor for their child
Agreeing to be guarantor for anybody carries some risk. If you agree to go guarantor for your child's loan, you need to understand that the financial institution to whom you are providing the guarantee. The lender will have a full right of recourse against you and/or your adult child, depending upon whom they want to sue.
An example could be in the event that the home loan cannot be repaid and the bank forecloses on the loan as mortgagee in possession. If there is insufficient equity in the property to allow the bank to be paid out, they will look to you, the guarantor, for the shortfall.
This is a real risk and many have been caught by this without giving proper consideration to the risks of giving a personal guarantee. It is a very useful tool, on the other hand, to get the loan "across the line" with the lender. It just needs to be considered in its totality so that you enter into this legal arrangement with your eyes wide open.
How we support you.
Our property and family lawyers can help you and your family with a range of asset protection advice and documentation.
When your hard-earned money is at risk it is important to take the steps to protect yourself. As your lawyer, we consider the best ways to protect yourself and your children and that monies remain with your family members to the maximum extent.
If you are considering lending money to your children or borrowing money from your parents to purchase a home seek out the right advice and get the best agreements to suit your circumstances.
At PCL Lawyers our team give concise legal advice in a cost-effective and in a practical solutions-focussed way.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
