Parent to child loans
Superannuation laws, rising house prices and relationship breakdowns mean that many parents need to consider how they can help their children financially. Some of the key issues that parents and children should consider before parents lend financial assistance to their children include the following.
Family Law and Bankruptcy Considerations
In the context of a relationship breakdown, a failure to correctly document a parent to child loan can have severe consequences for both the parent and the child. For example:
- A gift made by a parent to their child could be attacked as an asset of the relationship to be divided between the child and their spouse or partner.
- Federal and State Courts have the ability to view a parent to child loan as a resource of the child to be taken into account when the Court divides the other assets. Generally speaking, the more commercial in nature the terms of the loan, the more likely the Court will be to view the loan as neither an asset of the relationship nor a financial resource of the child
- In a bankruptcy context, failing to take security over the child's assets may mean that other creditors get paid before the parent.
Estate Planning Considerations
From an estate planning point of view, although loan agreements will usually state that the loan is repayable on death, the following should nevertheless be considered:
- Whether the parent would forgive the debt in their Will and compensate their other children accordingly.
- What the parent would do if the child passes away before their parent, potentially leaving a spouse/partner and/or children who are unable to repay the loan. Having security over the child's assets would give the parent flexibility to recall the loan immediately or at a later date.
- Similarly, if the loan was invested in the child's superannuation fund, the parent may find it hard to obtain repayment unless they have security over the child's assets such as real estate.
What To Do?
Where there is a risk of the child going bankrupt or suffering a relationship breakdown, or where the parent requires flexibility in the case of either the parent or child passing away, the following options should be considered:
- Loans should be acknowledged by both the child and their spouse/partner (preferably the child and their spouse/partner should enter into a Binding Financial Agreement (rather like a pre nuptial agreement)) and at least annually the child should make repayments of the principal or pay interest.
- The parent should consider taking security over the loan, such as a mortgage over real estate.
- The parent should review their estate planning documents to ensure that they put into effect their intentions in relation to the loan.
- The parent’s executors and attorneys should be alerted to the existence of the loan and their intentions concerning whether the loan is to be forgiven or repaid.
- Specific taxation advice should be sought before entering into a loan agreement.
If there is a dispute in the future, it will generally be the parent who has to prove that the loan was not a gift. An appropriately drafted loan agreement can help resolve disputes and help to prevent them from occurring.
A Stacks Wealth Protection Specialist will be able to help you draft a loan agreement, and answer any questions that you have.
