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The Bank of Mum and Dad – Relationship breakdown and the pitfalls of lending money to your children

With the ongoing increase in property prices and homes becoming increasingly out of reach of young couples looking to set up a home together, borrowing from the bank of mum and dad remains a popular option. Understandably in the excitement of buying a new home many young couples and parents do not give much thought to what might happen to money gifted or loaned by parents to children at some point in the future. 

I set out below a typical example of the consequences of a marriage or relationship breakdown where either there is a private verbal agreement between family members or no agreement at all after money has passed hands from parents to their children. Sadly, I have come across varying versions of the scenario below numerous times in my many years of practice as a family lawyer.

Janet and John have received an offer from Janet’s parents of £500,000 towards the deposit for a new home. Janet’s parents raise the money by re-mortgaging their own home. Janet and John agree to repay the £500,000 through interest free monthly payments.  They find their perfect property and instruct a solicitor to deal with the purchase of their home.  They apply for a mortgage which is granted. However, halfway through their purchase their solicitor informs them that their mortgage lender has raised a query over where the £500,000 for the deposit is coming from. 

When the mortgage lender discovers that the money has come from Janet’s parents, the lender insists that Janet’s parents sign a form confirming that the money is being gifted to Janet and John. Janet and John are now being chased by the sellers of the property who have threatened to put the property back on the market for sale. In a state of panic, they speak to Janet’s parents who say that they will sign the mortgage lenders forms confirming that the money is a gift as they do not want Janet and John to lose the home that they have waited so long for.  Janet and John reassure them that regardless of what the forms say they will repay the money they are borrowing.

The forms are signed, and the purchase of the property completes. Janet and John move into their new home. Money is tight as the home needs some refurbishment.  They also have furniture to buy. Janet unexpectedly falls pregnant earlier than planned and Janet and John never get round to making any monthly payments on the loan from Janet’s parents. There is always something that needs to be paid for and after the baby arrives Janet does not return to full time work. 

Janet’s parents are quite relaxed about the lack of payments as they know their money is safe. They had put away that money for their retirement when they intended to downsize their own home. As they do not intend to retire any time soon there is no immediate need for the repayment of their loan. Interest rates are low, and they can comfortably afford the repayments. When their grandchild arrives Janet’s parents tell Janet and John not to worry about trying to make any monthly repayments. Janet and John can just pay them back at a time to be agreed when they need their money.

Three years go by and the relationship between Janet and John breaks down. John moves out of their jointly owned home and Janet receives a letter from his solicitor seeking a sale of the property and the equal division of the sale proceeds in the property (after discharge of the mortgage). Janet protests. She reminds John that the £500,000 deposit needs to be repaid to her parents. 

John informs Janet that he has taken legal advice and he has been informed that he is entitled to a 50% share of the sale proceeds. He informs Janet that her parents would not have a leg to stand on if they tried to recover the deposit monies. He denies that the deposit was a loan. He insists that Janet’s parents gifted the monies to both of them and as a gift cannot be repaid, he is entitled to his half share.

If Janet or her parents applied to the Court, they would find it very difficult if not impossible to prove that the money paid into Janet and John’s joint account was a loan and not a gift.  There was never any formal agreement recorded in writing confirming the existence of the loan. In Court proceedings, it would be with her word against John’s and John would simply need to produce and rely upon the document that Janet’s parents signed to win his case. 

Janet’s parents will have lost their life savings and that was easily preventable if they had entered into a trust deed or loan agreement with Janet and John. 

It is easy for parents not to think the worst. Conversations about money can be difficult to have particularly with your own children. However, those conversations are fundamentally important. It is also fundamentally important to record an agreement about any loan of money (or even gift of money) formally. Janet’s parents could have gifted the money but if they had any inkling that Janet’s relationship might break down, then they would have wanted their gift their money to Janet alone rather than to Janet and John.  At the same time, they would have wanted to ensure that between them Janet and John entered into a separate agreement recording that the deposit was gifted to Janet and to be retained by her in the event of a relationship breakdown. 

Many parents and children do go down the process of lending and borrowing money with good intentions of recording their agreement in writing, but their efforts are thwarted by the conditions imposed by the mortgage lender. Many mortgage lenders will refuse to lend where some of the monies for the deposit on a property has come from a third-party such as a parent.  Lenders will not agree to third-party funds being protected with a trust deed and will often insist that the third party formally gift the money. This is understandable because a lender would want to ensure that if it had to force the sale of the property, the mortgage lender could recover the whole of the borrowing, costs, and interest first in  priority to any third-party. 

Where a lender will not allow a trust deed it should be possible to have a second charge on a home (after that of a mortgage lender) in favour of the third-party. However, some lenders will not even agree to a second charge being put on a home (after theirs). It might be tempting in such circumstances to ignore the need for a formal written agreement and simply rely on a private arrangement between family members, but you ignore any formal written agreement at your peril. It is impossible to know what the future holds. 

I have dealt with cases in which it is the child rather than the child’s partner who asserts that there is no agreement between the child and parent.  As a parent handing over large sums of money you need to think the unthinkable and plan accordingly to protect your assets (and in some cases the assets of your child where you are gifting money) from any claim by your child or child’s partner or spouse. 

If a mortgage lender will not agree to even a second charge on your child’s home to protect your contributions, then you must insist that your child (and partner) find a new lender who will lend in circumstances such as yours where you are lending money to enable the purchase of your child’s property. Be aware and be alert.  Speak to your child and partner about the potential pitfalls in advance.  Make sure that any mortgage lender is aware early of your contribution to the property they will be lending on. The time to address any issues that arise with the lender is before the formal conveyancing process begins not halfway through that transaction when you end up being held to ransom by the demands of the mortgage lender and a completion date imminent.

If you would like to discuss the preparation of a trust deed or any other agreement to protect your financial interest in someone else’s home, please do get in touch with me.

If you have contributed towards the purchase price of a property that does not belong to you and you are trying to recoup your investment, please give me a call about what options may be open to you.

Saika Alam

Branch Austin LLP

sa@branchautin.com

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