Helping children to buy a home
Saving a sufficient deposit for a home can be a challenge. We see parents helping children a lot.
When buying a home the first rule is to stretch. Buy the most expensive home you can afford, for a number of reasons. Stamp duty is costly, so you do not want to change homes too often. The home you live in is capital gains tax free, so a more expensive home bought now will, all things being equal, appreciate that much more, and be a better investment if you decide to downsize in retirement. A more expensive home should also be more enjoyable, and better suited to family living.
To protect against a marriage breakup, the parents can take a 2nd mortgage ranking behind the bank’s 1st mortgage. The 2nd mortgage should be “at call” and without interest. Nevertheless the 2nd mortgage should have an interest clause that can be triggers at the parent’s option, by inserting a clause such as:”The lender has the right to retrospectively charge interest at 3% per annum higher than the standard loan variable rate charged from time to time by the Commonwealth Bank of Australia, payable from initial drawdown or any further advances, upon demand.”
Banks making a home loan, focus on two requirements：(1) They will lend up to 80% of valuation; and (2), up to 30% of gross combined (husband & wife) income before tax, to cover loan repayments.
For example, with a before tax income of $100,000, a bank would look to $30,000 in annual loan payments. This translates to a $520,000 loan, over 30 years, at current interest rates of around 4.00%. On this basis a $650,000 home could be bought, requiring a $130,000 deposit.
Parents can help in different ways:
(1) Loan the $130,000 deposit (and take a 2nd mortgage).
(2) Let the bank take a mortgage for the $130,000 over the parent’s home to cover the deposit. The child would be responsible for the interest and loan repayments (secured by a 2nd mortgage).
(3) If the child can’t qualify with enough income for a bank loan, the parents can become a 1% owner on the title; they will then be joint & severally (100%) liable on the 1st mortgage. Banks prefer this arrangement, rather than parent’s guarantees.
(4) Subsidise the loan repayments. At current 4.0% interest rates each $100,000 requires around $5,750 in annual loan repayments on a 30 year mortgage. A 2nd mortgage can secure these payments.
(5) If things get out of hand in helping one child much more than the others, a clause can be inserted in your Wills to even things up.
Alternatively, and more flexibly, if you have a close family relationship, and your children are the executors of your Wills, you can keep track of family loans by an email, which you update to your children as loan balances change.