Parents and Grandparents are providing financial assistance to their children and grandchildren by way of inter-family loans at unprecedented levels. Attwood Marshall Senior Associate Hayley Condon discusses this important topic for families.
With the cost of living increasing and property prices soaring in most capital cities it is becoming increasingly difficult for our children to purchase their first home and make their way into the property market. So where do our children turn for finance? Usually to a financier that is normally flexible on its terms, charges minimal to no interest, AND does not always require regular repayments or security …. the increasingly popular ‘Bank of Mum and Dad’!
It is not unusual for an adult child to sit around the dinner table with their parents accompanied by their partner and request financial assistance. There is usually a discussion between the parties where the parents agree to lend funds for the purchase of a property. The advance is typically unsecured and not in writing because the parties want to keep the arrangement informal as it is a loan between family members (inter-family loan). In many cases they also do not want to inform the bank that the children are obtaining their home loan from.
BUT what can happen if this well intended financial assistance to give your child and their partner a start in life is not properly documented?
What happens if your child and partner separate?
Although parents may be completely transparent with their intentions when advancing funds to a child and their partner (i.e. that the loan is to be repaid), disputes often arise over the terms of the loan if the relationship between the child and their partner ends. Naturally, upon the breakdown of the relationship, the child will staunchly maintain that the advance was a loan to be repaid to their parents from the asset pool and the former partner will maintain that the advance was a gift made by the parents and that the value of this gift should remain part of the asset pool.
If the former partner is not prepared to concede that the advance was a loan (which is often the case) then the parents can end up being dragged into their child’s property settlement matter in the Family Court. The parents would incur legal costs to engage their own legal representation to argue that the advance was a loan or to intervene as a party to secure an order for repayment of the loan.
If the issue is litigated before a Family Law Court and the advance is deemed a “gift,” then the advance amount (which generally is equity in a property) will form part of the asset pool to be divided between the child and their former partner and the parents will not be repaid – in essence the parents lose their money.
An example of where the Family Court found that an advance made by a parent to their child and their child’s spouse was a “gift” is in the case of Carpenter v Carpenter.
In this all too common scenario, the father of the husband advanced $200,000.00 to the husband and his then wife. The funds were used by the husband and wife to purchase land on which they intended to build a family home. The loan was not formally documented. After the husband and wife separated, the husband maintained that the advance was a loan to be repaid to his father and the wife asserted that it was a gift. As the father was aware of how his son and his then wife intended to use the advance the Court determined that the father had gifted the money to his son and his son’s wife to financially assist them. Accordingly, the $200,000.00 did not have to be repaid to the husband’s father and the value of this gift remained in the asset pool for the benefit of the wife.
To avoid ending up in a situation similar to that of the husband’s father in Carpenter, it is important that any inter-family loans are properly documented by way of a Loan Agreement and secured whenever possible by way of mortgage.
By taking this simple step, parents can ensure complete security of repayment of the advance and have a strong case against any argument raised by their child’s former partner that the advance was a gift.
Inter-family loans – how does this affect siblings and their share in the estate?
We have only touched on issues involving the Family Court with respect to inter-family loans. There is also the impact of lending funds to certain children and whether this is taken into account if the loan is outstanding when the parents die. This can cause friction between siblings when the child who has the benefit of the loan argues that it was a gift and does not have to be repaid from their share of the estate! Again, it is very important that any such loans are properly documented and the parents Wills are updated to reflect their wishes with respect to any loans made to children. It is not uncommon for parents to provide in their Wills that loans are to be taken into account in the distribution of their estate or forgiven as the case may be.
Other issues about inter-family loans
Some other relevant things to consider if making an inter-family loan to a child or grandchild:
- The loan agreement is often stated to be ‘repayable upon demand’ – sometimes this can cause issues with the statute of limitations and the loan cannot be recovered after 6 years;
- Are there any tax or Centrelink issues with the loan – it is wise to obtain taxation and financial planning advice;
- Are there any issues with the Bank of your child? Sometimes borrowing further funds from a ‘third party’ can be a breach of the loan covenants;
- Are the parents of sound mind with no capacity issues or is there an Enduring Power of Attorney from the parent to the child? Sometimes there can be a conflict of interest if this is the case;
- Make sure the parent’s Wills are updated to reflect the loan agreement and any other family members are informed.
If you are intending to advance funds to your child and require assistance with the preparation of a Loan Agreement or if you require legal advice in terms of recovering payment of funds advanced to a child and their former partner, please contact our Family Law and Wills and Estates Department Manager, Donna Tolley on direct line 07 5506 8241, email firstname.lastname@example.org or free call 1800 621 071.
We have a dedicated family law team that practices exclusively in this complicated area.
Please click here to access our team brochure with details of our professional staff.