Making a loan to your children

To protect your loan to your children do a legally prepared loan agreement.

“A loan to my child seems harsh”

There is nothing wrong with helping your children financially, but giving away the money has real risks. With loans to children, don’t rely on a verbal agreement. A loan agreement protects the money in case for example:

1. a child separates from their spouse;

2. a child goes bankrupt;

3. a child develops a drug dependency or a mental illness; or

5. you run out of savings to pay for assistance required in your old age

Documenting loans to children

Rather than giving your children money, why not lend them money ‘payable on demand’? You can then call in the loan if something goes wrong.

A loan agreement protects your interests by putting rules about the loan in writing. In future you can forgive the loan, either during your lifetime or in your Will.

Any tax issues?

There are none if the interest rate for the loan is ‘as advised by the Lender’.  Whilst the interest rate is zero there are no income tax issues.

Loan agreement vs mortgage

If you lend your child money and a bank is also providing them with a loan, the bank lodges a mortgage over the property.

Making a Loan Agreement payable “on demand” does not change the precedence of a mortgage over the property over your rights to repayment. However, repayable ‘on demand’ rather than specifying circumstances for repayment protects you as it extends the circumstances in which the loan is repayable.

Your loan agreement should give you a right to lodge a caveat over any real estate your child owns in Australia. 

Should you consult your mortgagee?

Second mortgages are complex, expensive and rare. If there is an existing mortgagee, it will be difficult to lodge a second mortgage over the property.

An alternative is to lodge a caveat over the property.

How to lodge a caveat or mortgage in NSW using a loan agreement

1. All parties sign the loan agreement.
2. Engage a subscriber to an ELNO to register a caveat or mortgage with NSW Land Registry Services against the title of the property.

Conclusion

When making loans to children:

1. talk with your children about the proposed loan;

2. to protect you and your children – lend rather than gift them money;

3. don’t rely on verbal agreements –engage a solicitor to draft a loan agreement;

Don’t just record a ‘minute’ or IOU on a piece of paper. That is insufficient evidence of the existence of a loan. Only a legally prepared loan agreement satisfies the ATO, Bankruptcy and Family Courts as to the existence of a loan.

Loan to help child with first home buy

If you want to help your child with the deposit on their home or they need more equity, draw up a loan agreement and lodge a caveat over the property after the mortgagee has registered the mortgage.