Did you know – in 1994 the average median house price in Sydney was $192, 375? By September 2019, the average median house price in Sydney was $885,000. The 1994 Melbourne median house price was $130,000. In 2019, the average house price for a Melbournian was $685,000.
On average, it is taking Melbournians 111.09% longer to save for a deposit. It’s taking Sydneysiders, on average, 86.24% longer to save for a deposit. Adding to this, Sydney has the highest costs of living in Australia and is 86% more expensive than other countries in the world (Housing Affordability Index, Australian Institute for Progress).
It’s no wonder parents are trying to give their children a lending hand to enter the property market. Before this happens let’s take a look at the difference between gifts and loans.
Receiving a straight monetary gift from your parents is the most straight forward approach. It doesn’t even have to be documented but it can be.
However, your parents need to weigh up:
- Whether such gift will affect their own financial security. Most “baby boomers” do not have sufficient superannuation to fund their retirement, given that compulsory superannuation was not introduced until 1992. Will they need that money in the future?
- Whether they are gifting the money to both you and your partner or, just you. In which case, what happens if your relationship ever broke down? Are your parents happy for the gift to “come out in the wash” of any property settlement in that event?
- Whether, in the interests of family harmony, your parents can afford to do the same thing for your siblings?
- Whether your parents consider this an “early inheritance” and therefore, adjust any inheritance you may receive under their Wills?
- What if a claim is made against any owner of the property or any other person or the estate of a parent?
The key difference between a gift and loan is that a loan is supposed to be repaid. At law, there can be a presumption that a loan from a parent to child is really a gift, especially if the terms are vague or “lost to time”.
To circumvent this presumption, a prudent approach would be to document the loan.
Documenting the loan can range in complexity.
An Acknowledgement of Debt is the simplest form of documenting a loan. Usually, it documents the IOU and a few terms around the loan, such as the interest rate and the repayment date. This is rarely secured.
A Deed of Loan is more complex than an Acknowledgement of Debt but within itself, can range in further complexity, depending on how complex the agreement is between you and your parents. For example, the loan could be a facility (meaning you borrow sums from time to time up to a capped amount), can include events of default where immediate repayment is triggered, can provide that a caveat is registered against the property (which entitles your parents to notice of any other dealings registered on title) or can provide that a mortgage is registered against the property as security.
Securing the loan by way of mortgage ensures that your parents preserve priority in order of repayment, should the property ever be sold. Registered interests are paid first in order of time of registration and then unregistered interests in order of time of creation.
In this context, unregistered interests are at risk of being “gazumped” by registered interests.
Here, are some key considerations:
- Whether your parents will fix a commercial rate of interest? Interest can be as low as $1 p.a. but could be any amount you agree.(NB* interest-free is not recommended).
- Whether your parents intend for the loan to be repaid? The Deed of Loan could include a repayment date decades in the future or contingent upon a life event, such as your parents’ deaths.
- If you are also obtaining a loan from a Bank, whether your parents are comfortable with:
- The powers of the Bank to force the sale of the property, if you ever are in default under that loan. These same powers are available to your parents if you default under their loan. However, a Bank will be more likely to try to recoup any loss by way of foreclosure.
- Being paid out behind the Bank, if the property is sold. Most Banks will demand to have its mortgage registered first on title. This means the net proceeds of sale are applied towards its loan first and if there is any left, applied to the next interests in order of priority, which, of course, depends on whether your parents secure their interest by way of mortgage or not.
- Whether your parents make the loan “at call”. This means they can call for repayment of the loan at any time (subject to the terms of the Deed). This power is particularly useful to your parents if you ever went through a relationship breakdown. Your parents could “call in” the loan and you would need to repay it. This is routinely dealt with as part of a property settlement too. Your parents could always re-loan you the money after a property settlement had been reached but this power means the loan isn’t dealt with “in the wash”, like with a gift.
Ultimately, your parents need to weigh up what they wish to achieve by advancing money to you against all those “what if’s”.
What if they need the money? What if you can’t repay the loan? What if you go through a relationship breakdown? What if the property is sold for a loss?
Then it is a matter of tailoring a document and potentially, your parents’ Wills, to achieve the best possible outcome for everyone.
For many of our clients, they agree to take the most prudent approach (Deed of Loan secured by mortgage) knowing that their parents have the best protection against the “worst case scenario” but also knowing, that they can agree to terms that are little more onerous than a gift (e.g. $1 p.a. interest with a 20 year repayment period).
For information on gifts and loans, please contact Camille Broadhurst.
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