Saving for a deposit has never been more difficult, and more and more, we’re seeing home buyers reaching out to their parents for help. A substantial number of parents opt to be co-borrowers or guarantors for their children’s loans and data now shows more than 55% of first-time purchasers obtain an average cash injection of $89,000 from their parents to put towards their deposit (Financial Review, 2 May 2018). This is a risky strategy for both parties but in an over-priced property market, for many it is the only available way forward.
Whether you’re a parent wanting to help your child purchase their first home or a buyer looking to enter the property market and thinking about asking your parents for financial assistance, there’s a lot to navigate to ensure all parties are protected.
The impact for parents can be both overwhelming and multi-faceted, and the way they fund the transaction can have long term effects on their financial well-being. According to a Mozo survey published 14 October 2021, 52% of parents who help out dip into their savings, while 29% fund it via income sources, 22% cut back on expenses and 21% use the equity in their home. For people who have already paid out their own mortgage (or some who are still paying off their home loan), needing to do so all over again to assist their children is not something they envisaged needing to do. So much for a smooth and relaxed pathway towards retirement!
According to the same Mozo report, 67% of parents recognise the risks involved and feel they could be risking financial hardship by helping their children buy a property.
Notwithstanding the possibility of hardship, there are other implications for parents who help their child purchase a home. Firstly, in the case of being a co-borrower or guarantor to a child’s home loan, it can mean they are limiting their own future borrowing capacity, not to mention the fact that they will also be entirely responsible for paying back the loan if the child defaults. Secondly, any financial transaction can have an impact on the parent’s pension or welfare payments. And thirdly, if the child has borrowed money from the parent and is paying interest on their loan, this might be deemed assessable income and impact tax payments and pensions.
Perhaps the most alarming element is that very few of these transactions are documented. This can easily result in confusion and a lack of understanding. Is it a gift? Is it a loan?
This confusion may not only be between the two parties involved, it can also filter through to other family members. Will all the children be given the same assistance? Is this part of their inheritance?
A simple solution to ridding the transaction of any confusion is to put the arrangement in writing. This way parents and children know exactly what has been committed to and misinterpreted expectations can be minimised.
Sitting down to discuss the transaction is always a good way to start and should go a long way to uncover any issues or concerns. Working through a checklist and discussing questions as they arise will ideally produce a list of loan terms that can then be used to create a loan document. There are many templates that can be found online but ultimately engaging a legal advisor is always the best option to ensure the process remains above board. Like anything, legal documentation is only ever referred to when things are questioned or go wrong. It’s also a useful tool to fall back on when questions are raised 10 years down the track and no one remembers what had been discussed at the time of the transaction.
In short, regardless of how simple a financial transaction might seem at the time, documenting the terms of the arrangement is never something you’re going to regret.
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