For many people, the ‘bank of Mum and Dad’ is one of the oldest and sturdiest financial institutions out there. With the added bonus of opening on a Sunday and having hardly any queues, it is no wonder that nearly one in three first time buyers are planning to use financial aid from a family member.
This figure comes from a recent survey conducted by Santander, which also suggests that many people are switching banks altogether, with nearly one in ten now borrowing from grandparents. This shift to the ‘bank of Gran’ means that grandparents, who are securing the future for their loved ones, aren’t endangering their own.
1. Can you afford it?
Helping your grandchildren lift a foot onto the property ladder can be a very costly gesture with several complications. First and foremost, it should be a gesture that is practical, and one that you can afford.
According to Aviva, the average amount of financial assistance for first time buyers from family members is £25,090. This is usually in the form of a lump sum of cash to be used as a deposit. But, whether you are helping out a little or a lot, the decision should not be taken lightly. Think beyond whether you can afford it right now, and consider what your financial situation will be five, 10, 15 or 20 years in the future.
2. Is it a loan or a gift?
There are essentially three ways of helping with a lump sum:
- A gift
- An interest-free loan
- A loan with an agreed amount of interest to pay
Whichever option you choose, it should be made absolutely clear from the outset to avoid any disagreements later on. Whilst formalities, such as a loan agreement, may take the shine away from a kind and noble gesture, it is important to protect yourself from a number of potential future problems.
For example, if you have supplied a cash gift for a 20% deposit for your grandchild and their partner, drawing up a deed of trust can protect your family member from losing money should they separate and split the house evenly. This is, of course, a worst-case scenario for many, but a deed of trust clearly states the proportions owned by each individual and failing to obtain one could be a very costly oversight.
If you are going to help, the way you access this money could have consequences. For example, if the money is coming from a pension, how will that affect you from a tax point of view?
3. How will a gift or loan affect the mortgage?
Mortgage lenders may be wary of family assistance, whether it be a loan or a gift. If a cash gift is given, some lenders like to be absolutely sure that the person gifting the money has no interest in the house. A ‘gifted deposit letter’ can be drafted by a solicitor or by the lender themselves, and explicitly states that the sum of money being given comes with no obligations, is non-refundable and is non-interest bearing.
Loans can also affect the likelihood of a mortgage being approved, as the repayments increase your grandchild’s outgoings, which can be seen as an increased risk factor by the lender.
It isn’t all doom and gloom with gifting a house deposit, although it can seem a little Catch-22 at times. Mortgage lenders are a wary bunch at the best of times, but everything is judged on a case by case basis, and a good mortgage broker will steer you in the right direction.
4. Could a gift reduce an inheritance bill?
For those with a large estate, it could be beneficial to give a cash gift to reduce an inheritance tax bill. As inheritance tax is only paid on estates larger than £325,000 (rising to £500,000 in years to come due to the introduction of the Residence Nil Rate Band) it could save a tax rate of 40% which is money that the taxman would appreciate, but your grandchildren would probably find a better use for.
5. Is there a better way to help?
Helping your grandchildren out doesn’t have to come in the form of a cash gift or loan, with many lenders offering guarantor mortgages.
Help-to-Buy ISAs can also offer a solution, albeit a longsighted one. These can be opened by an individual at the age of 16. The maximum monthly contribution is £200 per month. An initial lump sum of £1,200 can also be made.
Any contributions up to a maximum of £12,000 will qualify for a bonus of 25% paid by the government.
Whether the ‘Bank of Gran’ is ready to open now or sometime in the distant future, it is important to help your loyal customers in the most efficient way possible. Most of us would do anything to help a family member in need, and the urge to rush to the rescue is often hard to fight.
But, take a step back, think how your actions will affect you both in the short and long term. A much appreciated helping hand can come in many forms, and there is no need to be a financial martyr for your nearest or your dearest.