Buying a home is increasingly a multigenerational family affair. Four in 10 parents recently surveyed said they expect to help their children buy a home. That’s more than double the percentage of parents who themselves got help from their parents when they bought their first home.
Home prices that have been rising faster than wages, combined with burdensome levels of student debt, are fueling this trend. Moreover, helping with home ownership is a here-and-now assist that can transform a child’s financial life, rather than waiting to bequeath money down the line.
Whether you are the Bank of Mom and Dad or the adult child eager to buy, a successful intra-family deal requires careful consideration of the various options:
Can you afford it? OK, parents, it is hereby stipulated that you, of course, want to help. Now the hard question: Can you cope with the long-term ramifications?
A $10,000 gift you make at age 65 would be worth more than $26,000 at age 85 if it kept growing at a 5% annualized rate. A $50,000 housing stake today would be worth more than $130,000 at age 85. If you have any inkling you could use that extra cushion in retirement, you probably shouldn’t be gifting money today. You could consider making it a loan – more on this below – but also keep in mind that if you intend to pull the money out of a traditional 401(k) or IRA, you not only will owe taxes, but a large withdrawal could bump you into a higher tax bracket for the year.
Got a boomeranger at home? Help them save for a down payment. According to the Pew Research Center, about 15% of today’s millennials are living at home, nearly double the rate when their parents were in their 20s and 30s. Making it a financial free ride does nothing to help your child build adulting muscles. If they’re focused on paying off student loans, great. But if they have ample cash flow and want to eventually buy a home, now’s the time they should start to save. You should insist that they set up a separate savings account and have automatic monthly deposits zapped into it from their checking account. A $500 monthly contribution is a down payment fund of more than $6,000 in just one year. That can be more than enough to qualify for a low down payment mortgage in many regions of the U.S.
Gift vs. loan. Gifts are the easiest and cleanest way to help finance a home purchase. In 2019 anyone can give another individual $15,000 without any tax implications. That means Mom can give $15,000 and Dad can give $15,000 to a child, and another combined $30,000 to a child’s spouse or significant other. (You can give more, but you will need to file a federal gift tax return. You won’t likely owe a penny in tax as the first $11.4 million – in 2019 – is part of each individual’s lifetime estate tax exclusion. But you need to file the paperwork.) Grandparents, aunts, uncles and generous friends are free to join in the gifting.
If your child will be applying for a mortgage, you will need to submit a letter verifying that the money you contribute is a gift, not a loan. If the money you contribute to the cause will be a loan, a lender is going to factor it into the calculation of your child’s debt-to-income ratio. That’s not necessarily a deal-breaker, but something to be aware of. And you definitely want a quick huddle with your tax pro to make sure you pass muster with IRS lending rules. You will need to charge your kid interest. The IRS publishes minimum rates each month. The long-term rate for loans made in May 2019 was 2.74%.
Co-sign carefully. If your finances and credit score are in great shape, stepping in as a co-borrower on the loan will likely get your child a better mortgage deal. Before you take this step, you might want to check in with a trusted financial advisor who can walk you through the math and the consequences.
Even if you expect your kid to make all the payments, in the eyes of the lender you are 100% on the hook as well. If something were to happen to your kid – a layoff, an illness – would you be able to easily step in and cover the mortgage, property tax and insurance? If you just hit pause when reading that, consider it a valuable warning.
If you do decide to co-sign a mortgage, and your child is single, make sure your kid immediately takes out a term life insurance policy. In the event your child dies prematurely, the proceeds from the death benefit can help cover mortgage payments and other housing costs until you are ready to sell. I explained the term life insurance market in a prior column:
Make a joint move. Depending on family dynamics, you might want to consider moving with your kid into a home that can work for all of you. Financially, it can help ease everyone’s burden. Sure, it will take some major adjusting for all parties, but before you knock down the idea, consider the upsides. Shared housing costs. Built-in grandparents for grandchildren – potentially helping with some childcare – and no worries for how the adult children will be able to step in if needed to help care for an aging parent.