Home » Family » Children » Is Financing Your Child’s Mortgage Right for Your Family?

Is Financing Your Child’s Mortgage Right for Your Family?

Having children requires a considerable financial investment. It calls for clothes to be bought, education costs to be paid, and years of doctor’s appointments to cover, and that doesn’t even include the cost of the latest iPad or camera phone. But what if your child is 30 years old, and hasn’t lived under your roof for years? And what if they come to you, asking for help buying a house?

It’s a question that an increasing number of parents have to answer. Statistics reveal that a greater number of parents are financing their children’s mortgages than ever before. According to the National Association of Realtors, 9 percent of first-time home buyers in 2010 received a loan from a family member, up from 6 percent the previous year, and 27 percent received a gift from a friend or relative to help cover the cost.

Considering the current economic climate, the data doesn’t come as much of a surprise. Although mortgage rates are at all-time lows, lending terms have become increasingly stringent for first-time home buyers. Without a consistent, reliable income and a proven credit record, young buyers are routinely denied lower loan rates. Many of their parents, however, do qualify. These parents are often boomers on the verge of retirement, and even if they are not wealthy they can often afford the down payment on a home. As a result, many young buyers are turning to their parents for assistance. Instead of paying off the mortgage a rate of 5 percent, they can instead forgo the bank and pay back their parents at the lower rate of, say, 4.5 percent.

If this situation sounds like something that may happen in your family, it’s worth weighing the pros and cons of providing such a considerable loan. On the plus side, as mentioned above, financing your child’s mortgage could help them afford a home they couldn’t otherwise get. It could also be a great investment vehicle. Many retirees, after spending a career building up their savings, choose safe investments with low returns. But CDs currently have an average one-year rate of 0.4percent, and you could stand to make a greater return – with what should be an equally safe investment – by putting money in your son or daughter’s house.

But there are several concerns to keep in mind:

The primary one: Is there any chance your child will default? If there is any doubt in your mind, it’s best to not provide the loan. Not only could a default cause rifts and uncomfortable family dinners, but it may also severely strain your finances, just as you reach retirement. Banks are capable of absorbing a single default; you may not be.

Another concern is that you may be tying up too much money in one investment. If you can’t afford such an investment, or want to remain more diversified, this might not be the right move for you.

Also, make sure that you don’t run into troubles with the IRS. If the rate of the loan is too low, the IRS might consider it a gift and tax it accordingly. In order to satisfy IRS requirements, you should charge near market rates and have a written mortgage contract including the standard terms and conditions just as if you were a bank. In addition, your child will need to make regular monthly payments just as if you were a bank.

If you make a loan to one of your children and not another, you may also want to consider additional provisions in your will stating how the loan will be treated at your death. For instance, should the loan be completely forgiven? Or in the case of two children, would the one with the loan owe their sibling half of the remaining balance? If more than two siblings would one owe all his siblings a fraction? Or is the loan immediately due and payable out of other inheritances? These are important considerations that could cause friction if not agreed upon in advance, either in the will or in the mortgage document itself.

All-in-all, a family financed loan can be a good solution for both parties, in the right circumstances, providing parents additional income and children access to a loan they might not otherwise be able to get,  if you structure it properly in advance.

 

 

1 thought on “Is Financing Your Child’s Mortgage Right for Your Family?”

  1. Pingback: What is a Flat Rate Loan? | Financial Trend Forecaster

Comments are closed.

Scroll to Top