If you’re considering lending money to your kids to help them purchase a new home, this article from The New York Times offers some valuable advice regarding important steps you should take before and during the mortgage process.
Parents often come to the rescue when their adult children need help putting together enough cash for a down payment. Whether they offer financial assistance as a gift or with the expectation of repayment, parents acting from the heart might want to consider a more businesslike approach.
Cathy Turney, a real estate broker in the East Bay area of San Francisco, said she has watched young homeowners walk away from their houses after values fell below their mortgage amounts during the recession, even if they could still afford the payments. And “there went their parents’ down payment money,” Ms. Turney said. “That’s the risk – the kids aren’t necessarily going to treat it as well as if they had invested their own blood, sweat and tears in getting that money,” she said.
Another potential risk down the road: the son or daughter winds up getting a divorce, and the terms of the down payment become a subject of dispute. “It comes up more often than not when divorcing spouses are either trying to grab assets or skip obligations,” said Danielle L. Schultz, a financial planner and divorce financial analyst with Haven Financial Solutions, in Evanston, Ill.
So what should a parent do? First, before providing any money, make sure the portion that will be used as a deposit on a home (usually 5 percent to 10 percent of the purchase price, but sometimes more) is protected. The purchase contract should contain a mortgage contingency clause, which provides for return of the deposit if the buyer cannot get a mortgage. If the seller won’t allow such a clause – as is common in very tight markets – then before signing a contract, “that borrower should get prequalified – not preapproved – for a mortgage,” said Richard Pisnoy, a principal at the Silver Fin Capital Group, a mortgage brokerage in Great Neck, N.Y. “Have the loan officer review all of their documentation to make sure it’s in real good standing.”
Parents who are providing a significant sum and want to maintain some control over the property could require that their children allow them to be added to the title at closing. “If the kids ever want to refinance, the parent gets notice and has to give his O.K.,” Ms. Turney said. “They can’t pull out $50,000 to go on a vacation or buy a Mercedes or whatever.”
Regardless of whether they are included in the title, parents should make clear the terms of the gift or loan in writing to guard against future problems.
