If you’re going to balance the future of your own home or property on your child’s reliability to pay their mortgage, make sure you’re across the risks.
The majority of Aussies take about 3.7 years to save for a deposit on a first home, with a third of the nation taking just over five years1.
If you’ve got a kid who wants to get into the market sooner rather than later, you may have discussed whether you’d be willing to up their ability to borrow (if you’re in a position to) by going guarantor.
This is where you use the equity in your own property as security for the loan being taken out by your child. Meaning, you promise the lender your child will make the necessary repayments and if they don’t, or are unable to, that you’ll repay the loan for them.
While there may be benefits for your kid, things can still go wrong, so here is a list of things to avoid.
1. You don’t really know what your signing up for
Depending on the lender, you can use your property as security on your child’s entire home loan, the entire loan amount plus additional costs, or limit the guarantee to a portion of the loan.
How long you act as guarantor will depend, but once your child’s loan has reduced beyond a certain level, you can ask to be removed as guarantor, but this will have to be approved and fees may apply.
You also may be required to get legal advice before a lender will accept the arrangement.
2. You haven’t considered what’d happen if your kid was without an income
You always want to hope for the best, but in reality, over the term of your child’s loan, there could be a point where they lose their job or become injured or ill and be unable to make repayments for a while.
For this reason, you may want to find out if they have a back-up plan, any emergency cash stashed away or personal insurance (what type and how much).
If things don’t go as expected, the loan does become your responsibility, so unless you have additional capital, worse-case scenario, you may have to sell your home to clear your child’s debt.
3. You haven’t really thought how this could affect what’s on your bucket list
Going guarantor reduces your ability to borrow funds, so it’s important to think about whether you have other plans that could be affected – holidays or other big purchases.
You may also want to give some thought to your retirement. June 2018 figures show individuals and couples, around age 65, who are looking to retire today, need an annual budget of $42,953 and $60,604 respectively to fund a comfortable lifestyle2. This assumes you own your home outright and are in relatively good health3.
4. You haven’t chatted with your kid about any expectations you have
Having an agreement in place could go a long way to ensuring everyone is on the same page. You may even consider writing down what you’ve agreed to so there are ground rules in place.
It’s also worth discussing how long you intend to act as guarantor and what your exit strategy is, as you may only be required to do it for the first few years as they pay down their loan.
5. You haven’t explored other financial avenues that may work better for you
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Could you gift a deposit?
If you can afford it, gifting a deposit might be something you’d prefer to do. A good deposit will reduce the amount your child needs to borrow, and the interest paid over the life of their loan.
Bear in mind, if you happen to receive Centrelink payments, you’ll need to consider that a gift of this nature could impact your benefits so do your research.
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Could you go in as a co-owner?
When you buy a home with your kids you share responsibility for the costs involved while receiving the benefits of investing in property.
It’s important to understand that as a co-owner you are included on the loan and you’d technically own only half of the property.
If you sign as a joint borrower, you’re equally responsible for the home loan and must repay the entire debt with the principal borrower—your child—whether they default or not.
This is also a big commitment and you’ll need to understand the risks and get the right advice.
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Could you let them save money by staying at home for longer?
Nearly one in three adults aged 19 to 34 still live with their parents, with financial reasons dominating why people said they stayed at home4.
With that in mind, you may prefer offering your kid their old room for a while for low or no rent to help them get some more savings behind them.
Please contact us on 02 4605 0350 to discuss any potential risks, benefits and tax implications.
1 Finder – one in three first home buyers stuck saving for a deposit for over five years – press release
2, 3 ASFA Retirement standard – table 1
4 Mozo – The cost of stay at home children – press release
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