Today’s housing market has most potential home-owners scared. With rising house prices and stricter loan regulations, new buyers are having to fork over obscene amounts of savings just to meet the minimum deposit.
And if they’re on the edge of affording it, they often look to mum and dad for a little help.
Sometimes ‘a little help’ can look like $20,000, $50,000, or even $100,000.
Would you do it?
Many parents would. They would do anything to give their children a roof over their heads. You could say it’s a parental reflex. And in today’s culture, it’s not unusual.
But it’s a dangerous game.
Loaning money between family members can have dire consequences if done improperly. Many parents wouldn’t even think about writing up a contract — but if things fall apart, they’ll be wishing they had.
The Bank of Mum and Dad
I recently read a fantastic article in North & South by Sharon Stephenson called ‘Open for Business! The Bank of Mum and Dad’.
In the article, Stephenson introduces you to a few beneficiaries and victims of the bank of mum and dad.
One mother gave her son an $80,000 interest-free loan to put a down payment on his home. She didn’t bother with a written contract because it was family. Well, as fate would have it, she and her son had a falling out a few years later. He sold the house, made a hefty profit, and made off for the Gold Coast scot-free.
The mother had plans of kicking back and enjoying the odd overseas holiday. Forget that. Now, she scans the classifieds looking for part-time work. Anything to stay afloat. And that $80,000 loan? She’s never seen a cent in return.
Another mother from Whanganui lent her son $26,000 for a deposit. Besides a lump sum of $5,000, she hasn’t gotten anything back. Even though her son is now earning good money, there’s simply no legal reason for him to pay her back.
Now, you might be saying to yourself, ‘I have a great relationship with my children. They wouldn’t screw me like that.’
Well, it’s not always the child running off with the funds. Sometimes it’s their spouse. If there’s no contract governing the loan, that equity becomes fair game if they get divorced. There goes half the house!
While it’s certainly possible for these familial loans to go well, the risk is extreme.
Many retirees are having to re-enter the work force just to regain some of the lost savings they lent away.
And on top of the risk of never getting the money back, there’s the risk of the money disappearing if the housing market crashes.
For decades now, Kiwis have looked at property as the end-all investment — the best and most reliable place to park your savings. And it’s worked well for the most part.
So when their children ask for funds to buy a property, many Kiwi parents wouldn’t think twice…because property is a safe bet.
Well, you’d be a few cards short of a full deck if you think that.
The New Zealand housing market is in a bubble. At this point, it’s not ‘if’, it’s ‘when’. [openx slug=inpost]
The odds are stacked against you
If your kid doesn’t run off with the money…and neither does their spouse…and the housing market doesn’t correct…you might get your money back. What a raw deal.
It would be better to consider the money a gift. If you happen to get something in return — great. If not, no worries.
And if you tell me, ‘Taylor, I can’t afford to give my kids a gift of $20,000,’ then that means you can’t afford to loan it to them either.
Frankly, it might be wiser to let them sort it out on their own. If they’re smart, they might rent instead…saving themselves from the dreadful losses that a crash could cause.
How did we get here?
Since 1993, household incomes haven’t kept up with house prices. In fact, according to the IMF, New Zealand house prices are outstripping incomes faster than any other country in the world.
As house prices have taken off, Kiwi home buyers have been left in the dust. And to complete the one-two punch, minimum deposits have risen…creating a compounding effect.
And then, to top it all off, there’s a diminishing return on university degrees. People can’t expect to get a solid job and decent pay right out of uni. Instead, they start lower on the food chain. Earning less. Saving less.
So altogether, you’ve got people making less, but having to pay a higher percentage deposit on a much more expensive house. Of course people are looking to mum and dad for dough!
What’s going to fix it?
What we’ve been discussing are the symptoms. To fix this problem, it needs to be addressed at the source — house prices.
As long as this bubble stays inflated, buyers are going to be stuck in this seemingly impossible money paradox. Fortunately, it’s desperate measures (like bankrupting your parents to buy a home) that can pop the bubble.
It’ll be painful. Especially for those that have bought a house in the past decade. And it could hurt those who have been planning retirement around their current house valuation.
If you’re thinking about lending some savings to your children, maybe it’s time to reconsider…
Editor, Money Morning New Zealand