Most parents think they are being kind when they gift money to children but is that the best course of action?
In this blog post we look into two examples, and three tips to being smart, not sad parents.
We’ve had a number of enquiries about how to best to best provide children with financial assistance. Most parents think they are being kind when they gift money to children. That is often not the best course of action. If the child divorces or goes bankrupt the money is lost.
Example 1. Sad Parents
Mum and Dad give their daughter, Joanne $400,000 to buy a house. She then marries Ken. Ten years later Joanne and Ken divorce. The house is still worth $400k. It is the only asset of the marriage. The Family Court awards $200k to Ken. The Family Court is not interested that the money was a gift from Joanne’s Mum and Dad.
Example 2. Smart Parents
Mum and Dad lend $400,000 to their daughter, Joanne. Joanne signs a legally prepared Loan Agreement. Joanne purchases a house with the money. She marries Ken. Ten years later they divorce. The house is still worth $400,000. It is the only asset. The Family Court is shown the Loan Agreement. The Family Court orders that Ken gets nothing. This is because the assets of the marriage are nil.
To protect your loan we arrange for a national law firm to prepare loan agreements that comply with the Family Court.
Homemade loan agreements may not work. They carry less weight with the Family Court and Bankruptcy Court. Why take the risk?
But I love my children!
There is nothing wrong with helping your children financially. It could be for their first car, grandchildren school fees, a holiday or a property.
But protect the money in case:
- they divorce
- go bankrupt
- suffer from drugs
- afflicted with a mental condition
- stop loving you
- you run out of money yourself, in your old age
Should you be documenting loans to children?
Never ‘give’ your children money. Always ‘lend’ them money ‘payable on demand’. Get it back if something goes wrong.
A loan isn’t always for property and the grandchildren’s school fees. You can also fund the children’s Superannuation fund.
But don’t do this without getting financial advice, make sure you speak to me about this beforehand!
At different times, it is common to benefit one child over another with money.
If you benefit one child over another then it should be adjusted automatically at the time of your death to avoid problems. For example, let’s say you lend one child $500k and the other child $300k then that is adjusted at your death by paying the second child an additional $200k. So it is all fair again.
When making loans to children:
- talk with all your children together about the loans
- never gift children money – only loan them money (this protects both you and them)
- don’t rely on home-made loans or IOUs – let us arrange a legally prepared Loan Agreement through a law firm
In a Family Trust, the parents will often distribute income to the children to take advantage of their low rates of tax.
The children almost never see the money if it is not used to maintain them.
Instead, generally, ‘they’ loan it back to the Family Trust – this is called an Unpaid Present Entitlement (UPE).
But, sadly, at any time after they reach 18 years of age, the child can ask for the money and if accumulated since they were born can amount to a financially crippling sum!
We can arrange Deeds of Debt Forgiveness to remove this potential problem and the good news is that there are no taxation consequences.
Therefore, if you find yourself in a situation where you want to offer your family members some form of financial assistance then make sure we have a chat beforehand – it will save you in the long run.
Have a great day!
