Helping Your Child Buy a Home: Options and “What-If” Considerations

It’s no secret that Southern California homes are very expensive. Young families can face some heart wrenching decisions: Should they stretch to buy a home here, move out of the area for a home they can better afford, or put off their dreams of home ownership? You can make a big difference in helping your child buy a home by giving them some financial assistance, but doing that is a big decision as well. So how can you help make their home ownership dreams a reality?

Here Are 5 Ways for Helping Your Child Buy a Home:

1.    Give or Lend the Down Payment

Many homebuyers don’t have enough saved for a 20% down payment, and will take out a bigger loan to make up the difference. But stretching to make the larger payments can be a recipe for disaster, as we’ve seen with the recent tsunami of foreclosures. Giving or lending your child money to reduce the shortfall may make the purchase more feasible.

However, this decision shouldn’t be taken lightly. Few can afford to write a six digit check without it impacting their own finances. And there are tax and estate considerations to weigh. For more on this, read our article, 6 Tax and Estate Considerations for Gifting or Loaning to Family Members

When a straight gift isn’t the option, you can loan them the money. This decision comes with a number of considerations as well, which we laid out in our article, 6 Rules for Lending Money to Families.

2.    Purchase or Mortgage Together

Becoming a co-owner of the house along with your child, or co-signing on the mortgage loan, can help them buy a house they wouldn’t otherwise be able to. Being a co-owner means you’ll have control and part of any equity appreciation. On the other hand, you’ll be on the hook for any problems or expenses—including legal liability (picture a party guest being injured from slipping on a puddle in the kitchen).

Co-signing on the loan without going on title may leave you less exposed, but you’d still be responsible for the loan payments if your child (the homeowner) defaults. And if the homeowner is late with any mortgage payments, it can damage your own credit rating.

3.    Create an Investment

You can help without going on the title or co-signing on the mortgage by creating your own mortgage or an “Equity Participation Agreement.”

By creating a mortgage loan, you become a lender, and you receive a steady income long as your child (the borrower) keeps making the loan payments. If the borrower stops making payments, you have the right to foreclose on the home. But that right may not mean much: as a family member, it’s tough to foreclose (it certainly would make for tense times around the Thanksgiving dinner table!) Even if you are willing to foreclose, you’d likely be in “second position” behind a first mortgage lender, so you may not recoup all, or even any, of your investment.

With an Equity Participation Agreement, you would not receive interest income, but rather a share of the home value. For instance, if you contribute $100,000 toward a $500,000 house, your shared appreciation percentage would be 20%. If the house sells years later for $750,000, you’d be entitled to $150,000.

Equity participation offers more upside than a mortgage loan, but it comes with a higher risk. Your ability to get your money back is very limited, because even with a legally enforceable written contract, it’s not secured by the home, so you can’t foreclose. You have to wait until the home is sold to recoup your investment.

4.    Rent to Own

If your child can’t afford to buy a house now, you might consider buying a house yourself and renting it to them. To encourage them to strive toward buying the home, agree to a “Rent to Own” arrangement, whereby part of all of the rent payments are credited toward the future purchase price. Rent-to-own encourages the family member to make regular payments, and to treat the home as their own rather than just as a rental house.

5.    Build on Your Property

In a past article we talked about parents having a residence or room addition built on their children’s property, so they could live there in older age. The reverse of that is to build a residence or addition on your property for your children to live in.

The possibilities depend on the property itself. For instance, if you have a big house and enough room on the lot, you could have a cottage built on the property and move into it yourself, allowing a growing family to move into the larger house.

Weighing the Impact of Helping Your Child Buy a Home

Any of these options will have an impact on your own finances. And then there are the “what-ifs.” For instance, what happens to your equity participation agreement if the homeowners get divorced? Or, what if your other children take offense at the “inequality” of you helping one child buy a home but not the others?

It’s critical to know what the impact of helping your child buy a home will be, whether the risks are worth it, and to consider the “what-ifs” before agreeing to help family in any of these ways. At Blankinship & Foster, we help families weigh all the considerations of big decisions like this. Please contact us to discuss how we can support you in life’s big decisions.

About Jon Beyrer

Jon Beyrer, EA, CFP® is a partner of Blankinship & Foster LLC and is the firm’s Chief Compliance Officer. As a lead advisor, he focuses on helping families achieve their goals with sound wealth planning. In the community, Jon serves on several boards and is co-founder of the Professional Alliance for Children, a legal/financial charity for families of ill children. He has been quoted in The Wall Street Journal, The New York Times, and the Journal of Financial Planning. Jon lives in San Diego with his family.

Leave a Reply

Your email address will not be published. Required fields are marked *