With house prices accelerating in recent years and deposits outpacing first home buyers’ best efforts to save, parents are now helping their children into a first home more than ever before. While parents and their children might prefer to remain independent, for many it’s the only way to secure home ownership. So here’s an overview of possible parents-help-kids options, along with the pros and cons of each to consider.
Mortgage deposit gift from parents
Perhaps the most straightforward way a parent can help their child into a home is to simply gift them cash. Assuming the parent has money available, a gift means there are no complications around future repayment. This can also appeal to the mortgage lender, because the gift doesn’t count as existing debt that needs to be repaid. In other words, it won’t affect the borrower’s debt-to-income ratio, which the lender will likely use to calculate how much they can responsibly lend.
Providing a one-off gift also means the parent remains completely free from any ongoing responsibility for their child’s mortgage repayments. From the time of the gift, the child is free to make their own choices, including which lender to borrow from and what mortgage structure to choose. And that means the child is solely responsible if things don’t quite go to plan.
A gift like this is much like an early inheritance. Instead of the parent investing the money to help grow its value and eventually gifting it to their child, the child gains earlier control and the opportunity to benefit as they choose.
Parents can often be concerned about what happens if their child is in an existing or future relationship that splits up. If the young people involved are married or have been together for three years, their property may be divided equally between the two, including the parent’s contribution. So the child may be left with only half the gift. If parents are concerned about this, they should talk with a lawyer. It may be possible to legally protect the gift to ensure it stays in the family. This might require both the child and their partner to sign an agreement under section 21 of the Matrimonial Property Act, often called a pre-nuptial agreement.
Using parents’ house as equity
If a parent doesn’t have funds available to make a gift, they may be in a position to increase the mortgage on their own home, or get a new mortgage and gift that money to their child. The parent, the child or both could agree to meet the additional mortgage repayments.
The downside of this is that the interest paid on the mortgage adds to the cost of the gift. It also means the parent is legally responsible for their new mortgage, regardless of who agreed to make the repayments. However, it may be a relatively small loan and fully repaid in a short time.
Example: Two sets of parents make an equal contribution in different ways
Alex and Lucia are both in stable jobs. Based on their income, they have been approved for a mortgage of $600,000. Unfortunately they only have $40,000 saved for a deposit. Even with a 10% deposit first home mortgage, they can only borrow $400,000.
Alex’s parents offer to gift him $10,000 by topping up the mortgage on their own home. They’re still earning well and their mortgage is almost repaid, so are confident they’ll clear the additional loan within a year. Lucia’s parents have money invested and are happy to cash some up and gift another $10,000 to the young couple. With the combined total of $20,000 added to their savings, Alex and Lucia have a $60,000 deposit and are able to make full use of their approved mortgage. And because both sets of parents contributed the same amount, there was no concern over the gift being split in the unlikely event of Alex and Lucia going their own ways in the future.
Borrowing money from family to buy a house
If parents have money available but feel they may need it in the distant future, they can make an interest-free loan to their child rather than a gift. Legally backed by a Deed of Acknowledgement of Debt, this can tie down the conditions of the loan. For example, it could specify there is no interest charge and no repayments required until the home is sold, at which time the amount initially lent will be repaid in full.
This option means the parents are not liable for the child’s mortgage. It also means that if their child is in a future relationship that ends, the money is repaid to the lending parents when the property is sold. The interest-free loan may be for any amount, from a small contribution to the deposit to a substantial loan to reduce their child’s regular mortgage repayments while they save to buy their next home on their own.
As the parents will need to be repaid at some point, the lender may reduce the amount they are prepared to lend on a property accordingly. This protects their ability to recover the amount owing if the borrower is unable to continue making their regular repayments. In a few years’ time, the property may be revalued at a higher amount allowing the mortgage to be increased, which could be used to repay the parents’ loan.
Parents offsetting part of a child’s mortgage
Parents may have investment money tied up in a bank term deposit or a savings account earning very little interest. Several New Zealand banks will link this investment account to an offsetting mortgage in a family member’s name. The accounts just have to be with the same bank. The parent’s investment money effectively reduces the mortgage balance, which in turn reduces the interest owing each month. This has a compounding effect by allowing their child to repay a mortgage faster, further reducing the interest owing with each repayment. If the offsetting investment is locked in by some agreement, it may also mean the child can afford a larger mortgage. Offsetting often appeals to parents because they retain complete control over the money in their account. No-one else can access it. It’s also easy to remove the offsetting once the child is in a stronger financial position. This means the investment funds can be used for any new purpose, including offsetting the mortgage of another child for a while.
Agreeing to be a parent guarantor
One reason a deposit is required when getting a mortgage is to minimise the lender’s risk. It means that even if house prices fall, the lender can still recover their money by selling the home if the borrower can’t meet their regular repayments.
Another way to minimise this risk for the lender is for a parent to be a guarantor. This means they guarantee the mortgage repayments will be made and offer their home as security if they’re not. With a guarantor in place, a lender may require a much smaller deposit, if any.
This option used to be relatively easy to implement, however the Responsible Lending Act has made things less straightforward. The act now requires lenders to make ‘reasonable enquiries’, so that they’re satisfied the borrower or guarantor will be able to make the loan repayments ‘without suffering substantial hardship’. In the past, some lenders accepted a guarantee with an upper limit in value, but these are becoming increasingly rare.
To be accepted by the lender as a guarantor, the parents’ property must have sufficient freehold value to comfortably cover the amount being guaranteed. That means any outstanding loan on the parents’ house plus the amount being guaranteed must not be more than 80% of their property’s value. The lender will also need to ensure the parents will be able to meet their child’s mortgage repayments if they have to. This may not be possible for parents approaching retirement and a reduced income. Being a guarantor can also limit the amount a parent can borrow if their plans change in the future.
Becoming a guarantor, or accepting a parent as a guarantor, requires careful consideration. It can put strain on relationships if things go wrong. It’s important for both parties to seek independent legal advice before signing anything.
Buying a house with your child
Another option is for parents to buy a home with their child and become joint owners. Both parties could contribute to the deposit and all of the owners’ uncommitted incomes could be considered when it comes to mortgage affordability calculations.
This can be a good option if the parents are still earning good incomes and a long way off retirement. And if the child will be living in the property, they may still be able to use their KiwiSaver funds. As a co-owner, the parents might get their share of increased value (capital gains) when the property is eventually sold.
A potential downside is that lenders may see this arrangement as an investment, given the parents will not be living in the property. This might affect the required deposit and interest rate. Parents should also get professional advice about whether their share will be subject to capital gains tax if the property is sold within the relevant bright-line period, which is currently 10 years.
The usual co-ownership safeguards should also be put in place, such as a legal agreement that specifies what will happen if/when things change in the future. This could include the child deciding to live in another city or overseas, one owner wanting to sell, how ongoing costs (such as repairs and maintenance) will be covered and who decides when they need to be done.
Avoiding problems when parents help children buy a house
Buying a home involves a substantial amount of money and usually means a long-term commitment. When you add family relationships to the mix, there’s all the more reason for both parties to carefully consider all possible eventualities. It can all seem exciting and straightforward at first, but a lot can and will happen over such a long timeframe. To avoid misunderstandings and strained relationships, it’s important for everyone involved to plan ahead, describe how potential issues would be resolved and write them down in an agreement.
Here are some possible challenges to consider:
- Increasing interest rates
- Being unable to work for an extended period
- Parent retirement finances
- Restrictions on parent retirement options
- How the child’s siblings will be treated – equally, inflation-adjusted or based on their needs
- The need for mortgage repayment insurance
- Who is responsible for repairs and maintenance, rates, insurance and so on
- What if either party wants to sell up or buy the other out
How to help children buy a house when you don’t have money
If none of the options above are financially achievable, there are other ways a parent can help their child get closer to buying a home. Here are some examples:
Parents can encourage their children to make the maximum 8% contribution to their KiwiSaver fund. A mortgage broker or financial adviser can help to explain how powerful this can be. The child will soon adjust to contributing the maximum, particularly when it’s early in their career. An adviser can also make sure both parties understand all the potential benefits KiwiSaver offers first home buyers, such as a one-off First Home Grant.
Another option is for parents to set up regular contributions to their child’s KiwiSaver fund, to help accelerate their savings towards a life-changing first home withdrawal.
Helping an adult child to save more, without telling them how to run their life, can be another way to shorten the path to first home ownership. One way to do this is for the parents to match their child’s fortnightly or monthly savings in a joint savings account. A mortgage broker or financial adviser can get this off to a strong start and provide an independent point of reference.
Providing rent-free accommodation
Not all parents are keen on their children returning to the nest, but it can be a low-cost way to boost savings that will eventually become a first home deposit. There can also be clear benefits for the parents, such as an agreement the child will take care of gardening and maintenance tasks, cooking every other night, shopping and so on. It’s best to approach it as a flatmate situation, to keep things congenial.
If parents have been looking forward to an extended holiday, boarding children can make this much easier and a little cheaper. They can take care of pets, look after the house and gardens, collect mail and send photos of what’s arrived while they’re away. In fact, weekends away for the parents can become a regular thing, which also gives everyone a little time to themselves.
Getting independent advice
Whenever parents are helping their children to buy a home, it’s important for everyone to get independent legal advice and make sure they understand the potential implications of what they’re agreeing to. Family relationships are too important to risk, so lawyer-prepared agreements are important. Verbal agreements run the risk of misinterpretation or memory fade.
To learn more:
- For help with crunching the numbers when budgeting, seeing how much you could borrow or exploring the repayments for different mortgage options, see our handy online calculators
- For in-depth information on everything from getting a deposit together to understanding the different types of mortgages, see our comprehensive first home buyer’s guide
- If you think a new-build property might be the way to go, see our guides to new home vs existing home and new-build construction loans