Gifting, Intra-family Loans, & Co-Borrowing

Lana Xiao, CFP®

Gifting, Intra-family Loans, & Co-Borrowing image

Do you know someone whose children moved away from the Bay Area because of the exorbitant housing prices? I do. I have friends who watched their kids move to Seattle, Austin, Portland and countless other more affordable places. Parents want to be close to their children, and it’s sad to see your kids move away against their own choice, but unfortunately it’s a reality with today’s housing market.

At Summitry, we’re exploring ways in which parents can help their children buy their first home in the Bay Area. Here are three simple strategies to make sure you do it right:

1. Gifting cash for the down payment.

This is an obvious one, but also a challenge to take on yourself. You’re probably saving up for your own retirement, so how can you tell if you have enough to help your children with this heavy lift? Our advice is to work with your financial planner and have a retirement plan in place before you decide to write that check.

You can gift up to $15,000 per year, per person tax-free (in 2019). So, a married couple could give a total of $30,000 to each child or $60,000 to their child and spouse. These gifts don’t count against your $11.4 million lifetime exemption (in 2019). The lifetime exemption kicks in when you exceed this annual amount in one given year. If your child needs more than $60,000, you can consider gifting the annual maximum over two calendar years. For example, you can give a married couple $120,000 by gifting $60,000 in December and another $60,000 in January.

2. Intra-family loans.

Let’s say you’ve worked with your financial planner and determined that you can’t afford to give outright cash gifts. If this is the case, then an intra-family loan is a great option. The median home price in the Bay Area is around $1.3 million, so that means having to come up with $260,000 in cash for a 20% down payment. Perhaps you can afford to loan your children the down payment and have them pay you back over 10 years in monthly installments. There are companies that facilitate intra-family loans like these.

Keep in mind, it’s very important that the interest rate of your intra-family loan is higher than the IRS’ Applicable Federal Rate (AFR). Otherwise, you’ll be taxed for the assigned interest. The AFR is still usually well below most banks’ best mortgage rates. January 2019 mid-term AFR (up to 9 years) is at 1.69%, which is lower than a 7 year Adjustable Rate Mortgage you can get at most banks. The note can also be secured by the property, offering additional protection to you as the lender.

Get in touch with your financial planners and they can help you structure an intra-family loan program so you can help your children and still stay protected.

3. Co-borrow and co-sign the loan with your children.

This may be another way to help your children. A lot of young people don’t have long credit histories; therefore they may not get the best mortgage interest rates. Many times, parents with a solid credit history can co-borrow or co-sign with their children to shop for the best mortgage rates and satisfy bank mortgage requirements.

Before you take on the task of helping your children with their home purchase, make sure that they have a solid understanding of the housing market and how credit works. You don’t want your children to ruin your credit history (and your retirement) if they default on mortgage payments.

Buying a home is a long-term decision. You’d want your children to keep their new home for at least five years so the property can weather through short-term housing market corrections. And, let’s be honest: how often do you want to go through the pain for applying for a mortgage? I have a box full of paperwork from my last re-fi and believe me, it’s not a fond memory

One final note: it’s very important to have an open and honest conversation with your children to figure out their dreams and desires. Ask them thoughtful questions, like: can you see yourself raising a family here considering the higher childcare costs? Make sure their hearts are into staying in the Bay Area as much as yours are and you’ll end up with a solution that works well for everyone.

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Aaron Szager

Advisor Group Manager