Bank of Mum and Dad
First published in the Wealden Times on the 1st July 2017.
Average property prices have increased over the last few years and therefore banks are demanding sizeable deposits before granting a mortgage. As a result, many first-time buyers are turning to their parents for financial help.
Stephen Horscroft, a private client lawyer at Cripps, looks at some of the issues that arise when first-time buyers step onto the property ladder with help from the “Bank of Mum and Dad”.
Parents who are in a position to help have a choice of lending money (with or without interest), gifting money or taking a beneficial interest in the property through a Declaration of Trust.
If parents charge interest on a loan, the interest will need to be declared for income tax. In the event of death, any amount outstanding will form part of the assets in their estate, which could cause complications if the borrower is not the sole beneficiary. If the money is a gift, it will remain part of their estate for inheritance tax purposes (IHT) for seven years. This will increase the tax on the rest of their estate if they die before the seven years are up so they may need to change their wills to ensure the overall effect treats all their heirs fairly. In certain circumstances, life assurance can be used to even things up.
Parents may also want to ensure that gifts do not end up benefiting their child’s partner should they subsequently divorce. One option is to lend the money via a family trust structure, which can also prove useful for IHT planning. Although there will be a cost to set up a trust, if no interest is payable, the running costs would be minimal. However, this is not a straightforward option as divorce courts can treat an interest in a trust as a resource of the divorcing party if they are listed as a potential beneficiary of the trust.
A further complication with loans from parents (or a trust) is they can make banks uneasy about giving the borrower a mortgage to cover the rest of the cost of the property. High street lenders generally want confirmation that any balance of funding is from the borrower and no one else. In the past it was possible to use parental guarantees but lenders are less keen on them now. A loan from a parent is a debt that needs to be declared as part of the mortgage application. The lender may require additional assurances before they will agree to grant the mortgage.
If parents take a beneficial interest in the property via a Declaration of Trust they will receive a share in any increase in the property value on sale (although this increase will be subject to Capital Gains Tax). Since the introduction of new rules in April 2016, a Stamp Duty Land Tax surcharge of 3% will be triggered on the whole purchase price if the parents have an interest in any other property (as is nearly always the case). This has made the option of taking a beneficial interest in the property less attractive and resulted in loan agreements becoming more popular with parents who do not wish to make a gift.
The Bank of Mum and Dad may seem an easy solution for someone trying to get on the property ladder but there are complexities to consider. A solicitor with expertise in this area can advise on the best option in your circumstances. However, strict rules regarding conflicts of interest mean that the solicitor will not be able to act for all parties when advising on and implementing the arrangements. A good solicitor will also help you find a reliable independent mortgage adviser for unbiased advice about a range of lenders’ products.
If you would like more information, I can be contacted on 01892 506341 or email email@example.com.