By Richard Yasinski
Certified Financial Planner
I often get asked the best way to help grown-up children to get into their first home.
A home can be a great savings and investment strategy. But it can also be challenging for first-time homeowners to purchase without help.
Here are a few things you should consider before making the decision to help, and how you might go about it:
Does it make sense for them to own a home at this time? My daughter started working in Ottawa with the best of intentions of settling here. She rented an apartment, bought furniture, and began to save for a home. But life happened. Now she’s a wildfire ranger in Alberta, living in a camp all summer. (And guess where all her furniture is.)
With the transient nature of employment, you need to be as sure as you can be that your son or daughter have a high probability of staying put.
Be prepared with Plan B: Let’s say they move out of town for work. Your investment may need to become a rental. It might be more appropriate to renovate the basement for them to live if job security is an issue. Buying a home and having to sell too soon is costly.
How to go about it?
Once you’re confident they’ll buy the most appropriate home in the right location, they’ll probably need help with the down payment. I recommend striving for a minimum 20 per cent, because this eliminates the need for a CMHC-insured mortgage, which adds to the cost.
“Gift” the money. If your child plans on living in the home alone (or renting to friends) and qualifies for a mortgage, this would be the simplest approach. However, if they get into a live-in relationship and that relationship breaks down, the home could be considered a matrimonial asset with the equity divided – including your gift. A pre-nuptial agreement is awkward, messy, and not likely.
Loan the downpayment and collect interest. A documented loan must be legally repaid so you have a better chance of protecting your money. But the lenders would want to know the details of the repayment schedule, which could cause an issue with the mortgage; and you might end up having to be the guarantor. Given that interest payments aren’t high enough to matter much and are taxable, there is another way to lend the money.
Set up a demand loan. This approach protects your money and is most tax- and investment-efficient. You offer your children an interest-free demand loan based on a percentage of the purchase price – say, 20 per cent of the down payment. You can request repayment of the loan based on the same percentage of the future sale price of the home. Your child applies to a bank or mortgage broker for a mortgage using your loan as a down payment. The lenders should be okay if the demand loan is documented and clearly states no payments required until sold, but you should find a lender who will accept this. Your demand loan might have to be positioned as a second in line to the mortgage, because the lender will want to be first in line. The amount of the loan is based on the size of the mortgage your child can qualify for, plus all the other costs of home ownership.
If you lend them 20 per cent of the purchase price, you could have both your names (joint with right of survivorship) on title of the property and complete a simple document confirming the arrangement. (Of course, you would want to consult with a lawyer.)
You could include some conditions, for instance: no monthly payment required; the home must be in the province where you live (which is an outright bribe, allowing more frequent visits); the loan could be secured by a second mortgage on the home (which requires a lawyer to put in place). This would secure your investment in the event of a relationship breakup.
You could limit the loan for a specific period – say, 10 years or if the house is sold – when it must be paid back. You could decide to change this if circumstances dictated it. When the house is sold, you would receive 20 per cent of the sale price. The gain on your initial investment would be a capital gain, 50 per cent of which would be taxable at your marginal tax rate at the time.
Along with protecting your money, this last approach is a mutually beneficial arrangement. It doesn’t look like a hand out but a hand up.
Richard Yasinski is a certified independent Financial Life Planner and has been in practice in Ottawa since 1996.