Considerations before you become the bank of mum and dad

Every parent dreams of seeing their children do well in life; to see them find success in a field they love, start a family with a partner they love, and to one day own a home they love. Parents do what they can to bring those dreams to life. It’s no wonder that the Bank of Mum and Dad is now Australia’s fifth largest home loan lender.

We all want the best for our families, so it’s important to go about it the right way.

Being a bank is harder than it looks

The most common resource retirees lean on to loan money is their own retirement savings, which may include their super and any investments they can draw on. This has obvious drawbacks. Putting your own comfort and well-being at risk, especially during retirement, is an unsustainable way to fund a loan from the Bank of Mum and Dad.

Other ways can put you at personal financial risk. Being a mortgage co-borrower means you’re on the hook for mortgage repayments if your child misses them. Similarly, joint ownership, a home bought by already home-owning retirees, would be likely to affect pension entitlements. If circumstances mean your child is unable to meet the repayments, you’ll have to tap your retirement funding to do so.

Other retirees prefer to act as a guarantor, putting up their family home as collateral. Being a guarantor on a mortgage constrains your own ability to borrow and puts your property at risk if your child defaults.

The tax and pension implications

Giving your children a home loan is a monumental financial decision and needs to be done responsibly and sustainably. That means doing your due diligence and leaving no stone unturned. Some of the most common questions we get from retirees looking to help their kids is if and how their decision will affect their taxes, or the Age Pension they often rely on. While we can provide some broad information, you should always speak to your accountant and Centrelink to ensure your actions don’t have unintended consequences.

If it’s a gift, and you receive the Age Pension, then you must declare it to Centrelink. There is a maximum gifting limit of $10,000 per financial year, or $30,000 across five years. Exceed those limits, and your gift may affect your assets test, and therefore your pension entitlements.

Loans may also affect your entitlements and may be treated by Centrelink the same as any other investment: with a deemed rate of return. It won’t matter if you don’t expect your kids to pay interest, or if they stop paying the interest you did agree on. And remember, the impact of your loan on your pension entitlements won’t be limited to five years, but for the period the loan is outstanding.

Whether it’s a gift or a loan, always make sure the terms of the deal are clearly documented.

Using your Household Capital for intergenerational giving

If you’re going to be the Bank of Mum and Dad, you’ll need a long-term strategy that helps your children without sacrificing your own wellbeing in retirement. Using home equity might be the right strategy for you.

Through a Household Loan, which is a type of reverse mortgage, you can access a fraction of the equity built up in your home to boost your long term retirement funding.

It’s important that any intergenerational wealth transfer is responsible; you must make sure your own needs are met before trying to assist your loved ones. However, if your retirement funding needs are in hand, you can use a Household Loan to be the Bank of Mum and Dad.

Rather than waiting for an eventual bequest, your children and grandchildren can receive part of your wealth now, when they need it most.