The “Bank of Mum and Dad” has been equivalent to being the 10th biggest mortgage lender in the UK for the past two years. A report by insurer Legal and General has found that parents loaned an estimated £5bn in 2016, and this is expected to rise to £6.5bn this year.
Parents should consider whether their funds are intended to be a gift or a loan in order to ensure the correct legal documentation is in place.
Here are some points to consider:
- A loan doesn’t have the same tax saving potential as a gift. A gift made by a parent to a child will not be subject to Inheritance Tax if the parent survives for more than 7 years from the date of the gift.
- If the funds are intended to be a loan, what are the repayment terms? For example, does repayment include interest? How many years is the loan being made for? Do these factors accord with any saving and/or retirement plans?
- Whether funds are being given as a gift or a loan, if a property is being purchased jointly by a couple, should funds be protected in the event that the couple split up and the property is sold?
- Is the buyer obtaining a formal mortgage as well? If so, the buyer would be required to declare the source of all funds to their mortgage provider. If parents intend to provide funds by way of a loan, this may impact the rate and terms of mortgage offered by the mortgage provider.
The report found that the Bank of Mum and Dad is primarily capitalised through savings, investments, pensions or funds released from properties on moving home with only few people capitalising from equity release.
The most common form of equity release is where property owners take out a lifetime mortgage over their main residence and receive that amount in either a tax-free cash lump-sum or several smaller amounts without having to make any repayments during their lifetime. Instead, the property is sold upon death and the lender is repaid. Home owners are able to ring-fence part of the value of the property for inheritance purposes or even make full repayment of the mortgage during their lifetime and retain full value of the property.
Only 3% surveyed had released equity with another 3% considering it. As house prices continue to rise pushing more people away from getting their foot on the property ladder, equity of those in ownership is also on an upward trend, and has great potential of being an important source of funding in the future.