Nearly one in five first time buyers in the UK is relying on the bank of Mum & Dad to get them on the property ladder. Parents and grandparents are increasingly being called on to step in to help younger family members buy their first home.
According to research last year, first time property buyers now need to save for an average of eight years to have enough for a deposit compared with just a year’s worth of savings back in the 1990s.
Londoners must wait even longer and even though wages tend to be higher in the capital, property prices are proportionally still much higher.
Research shows that around 60% of first time home buyers get help from parents to buy their first home and it can make a lot of sense for everyone concerned. However, it can also be fraught with difficulties.
You must think through the consequences and take appropriate legal advice. There is a need to be cautious at all times. Parents who want to help their children buy their first home and, at the same time, become financially independent, should think very carefully about how they should provide financial support. Older family members need to be sure that they are not putting their own security and future retirement comfort at risk.
How to Get Children on the Property Ladder
1 Outright Gift
The easiest way for parents to help is to simply give their offspring money needed for a deposit. The larger the deposit that a would-be house buyer can put down, the better the mortgage rate that he or she will be offered. Mortgage lenders prefer deposit money to be a gift and usually ask for a letter from parents confirming that the money does not need to be repaid.
However, if parents are giving some money to help with the deposit for their child to buy with a partner, it is worth considering what will happen to the money if the parties split up. Consideration needs to be given to how the equity in the house should be divided should the parties end their relationship. Parents should also ensure that they remain financially secure in the future. Whilst parents may be financially secure at the moment, what happens when they come to retire? Things can be very different and circumstances can change very quickly.
There are also tax implications. If a parent does make an outright gift and the parent dies within seven years of handing over the money, the child may have to pay inheritance tax. Likewise, a parent may have to pay any capital gains tax if money is lent with interest and the value of the property increases.
2 Loaning Deposit Money
If a parent is lending rather than giving money then it's vital to get that established in a formal legal document to prevent confusion and distress if circumstances change.
Problems could arise if a parent dies and the surviving spouse needs the money back to live on or to pass on to other children to meet the terms of the dead parent’s Will or the marriage or relationship breaks down.
Consider one scenario. Fred lends £150,000 to his son, Sam, to buy a home with his new wife who he has only been dating for a few months before the marriage. Sam has not yet drawn up a Will. Sam dies tragically in a car accident. The money automatically passes to his wife, Victoria, despite the fact that Fred and Sam had intended it as a loan.
A tragic event which was not foreseen but the financial implications could have been avoided if legal advice had been taken beforehand and a document drawn up to give effect to the parties’ intentions.
The document does not have to be complicated. It must contain a clear and simple statement of effect so long as it is signed by all parties. It should state:
· The basis on which the loan has been made.
· What will happen to the money if one of the parties dies or the child and spouse or partner split up or if the parent needs the money paid back.
Clearly it is simpler if lending to a single child. However, clear documentation must be produced as circumstances change and people fall out. It is cheaper and less traumatic to deal with at the outset with a legally valid document rather than waiting and potentially ending up in court.
If a child’s income is insufficient to allow the purchase of a first home, parents may use their own income to boost their child’s financial status. This can be done by acting as a “guarantor” or opting to take out a joint mortgage.
If parents are home owners with a sufficient amount of equity in the property it may be possible for them to act as a guarantor for their child’s mortgage. This means they guarantee to pay the mortgage if the child cannot afford to. The lender will assess their income and make sure they can afford both their own outgoings and the child’s mortgage payments. If they decide they can, the lender will allow them to be a guarantor.
However, there is a catch. A “charge” will be put on the parents’ property and in the event that the child defaults on the mortgage payments the mortgage lender can pursue the parents for payment. If they cannot pay, ultimately, their home could be repossessed.
On the plus side, because of the additional security a guarantor offers, mortgage lenders are sometimes willing to lend more than if they did not have a guarantor. Think carefully about any arrangement and do not undertake anything without specialist legal advice.
You must be absolutely clear about how much you are guaranteeing and what the risks are. Be particularly careful as your own home could be put at risk. If you are considering a loan guaranteed via a charge on your home, make sure that the amount of guarantee is capped. This means that your liability cannot exceed the original agreed amount.
It is apparent that there are a number of schemes which can offer assistance but each one must be carefully considered as circumstances can change. Some schemes allow parents and children to pool their resources to secure a larger mortgage. Others use the equity in Mum and Dad’s property to secure a higher loan to value than would otherwise be available or require parents to put money into a savings account which can be set against the loan in case things go wrong.
The simplest way of helping children get onto the property ladder is usually to contribute towards the deposit. If a lender requires a charge over the parents’ property please bear in mind that you may be restricted from borrowing in your own right until the restriction is lifted and it is important to understand what you are getting into beforehand.
Clearly, obtaining legal advice from the outset is a prerequisite to entering into any financial arrangements with your children to fund a house purchase; regardless of much you love them.
See Slater and Gordon's new research and top 5 tips to help children get on the property ladder.
Stephen Lintott is Head of Property at Slater and Gordon Lawyers UK.
Slater and Gordon are a nationwide law firm with offices in London, Manchester, Liverpool, Sheffield, Birmingham, Milton Keynes, Bristol, Derby, Cardiff, Merseyside, Cambridge, Edinburgh, Halifax, Newcastle, Wakefield & meeting rooms in Bramhall, Cheshire & in Hull, Yorkshire.