December 15, 2016
Kate Sheehan

Parent guarantor to help children with housing loans – but at what risk?

Many parents are under pressure to become a Parent Guarantor. It’s tough to enter the Australian property market thanks to housing affordability being at record lows.

Buying into a highly inflated property market, despite very low interest rates means most people’s mortgage repayments use up a very large percentage of their total income.

This scenario has seen the birth of an unofficial but major bank.

Which bank?

The Bank of Mum & Dad.

A familiar story …

Mark wants to get into the Sydney property market but needs help. Enter good old Mum & Dad. Graham & Sally want their son Mark to have the Australian dream of owning his home. They can see it would be virtually impossible for Mark to save a deposit and then pay off such a huge mortgage on his own. They see how much stress this is adding to his life.

They decide to give Mark a leg up by agreeing to guarantee his housing loan. Like many parents, Graham and Sally, are unaware of the real risk this is placing on their hard earned investments and family home. They are unaware how the decision to be a parent guarantor could end up back firing and in the case of a default, the whole family being worse off.

“Superannuation savings of older Australians are
under stress as they help their children buy houses.”
John Fraser, Treasury Secretary at Senate estimates hearing October 2016

Best case scenario Vs. Financial Distress

If the price of housing continues to rise, interest rates remain at an all-time low and Mark retains his employment and stays healthy, Graham and Sally should be ok.

However, these factors would need to remain relatively steady for a very long time – an unlikely scenario when markets are so high, there is talk of interest rate rises, and also the potential for the economy to slow and unemployment to increase.

If Mark loses his job or interest rates move by 2–5% making it impossible for Mark to make the repayments – they are all in very big financial trouble.

Graham and Sally are, in reality, putting their own financial security and therefore future at a very high level of risk. The risk is even higher for retired parents who don’t have a steady source of income.

Risk Management

While it is completely understandable for parents to want to help their children out, before signing on the dotted line and becoming a parent guarantor, they need to fully comprehend all the implications involved in guaranteeing a housing loan for their children. It is best for all concerned to look at the situation rationally, not emotionally.

In some cases, it might be best to say ‘no’ to being a parent guarantor. For others, it may be just working out how best to structure a loan and limit liability.

The number of first-time homeowners having their mortgages guaranteed by a family member has risen from around 5% in 2010 to around 50% in 2016 (according to research published by advisory firm Digital Finance Analytics). This is a dramatic increase in the number of parents at risk of losing their pledged assets in the case of a default.

It’s worth researching that the right level of protection is in place and getting educated prior to approaching a lender. Legal advice is wise and looking at comparison sites such as Canstar and Choice can save a lot of money and heartache.

References & Helpful Links:

1. http://www.yourmortgage.com.au/article/nab-and-westpac-home-loans-guaranteed-by-parents-are-on-the-rise-227328.aspx

2. http://www.theadviser.com.au/breaking-news/31790-wealth-group-chief-suggests-alternative-to-going-guarantor

Useful Links – Legal

a. http://roselaw.com.au/resources/what-happens-when-you-default-on-a-loan-and-have-a-guarantor/

Useful links – Loans to family, guarantor loans, how to get protection

a. https://www.choice.com.au/money/credit-cards-and-loans/home-loans/articles/banks-offer-risky-home-loans

b. http://www.canstar.co.nz/first-home-buyers/going-guarantor-a-helping-hand-for-your-children/

c. http://moneymag.com.au/be-careful-gifting-kids-a-home-deposit/

d. https://www.moneysmart.gov.au/borrowing-and-credit/borrowing-basics/loans-involving-family-and-friends

e. http://www.news.com.au/finance/money/david-koch-how-to-secure-your-financial-future-and-help-your-kids/news-story/e571b6b461c47a44c5d669fb9d4e1e2c

f. http://thenewdaily.com.au/money/property/2016/08/17/how-to-help-kids-house/