According to The Project on Student Debt, the average student debt at graduation in 2018 ranged from $19,750 in Utah to $38,650 in Connecticut, and new graduates’ likelihood of having debt ranged from 36% in Utah to 76% in New Hampshire. While the job market is bright, this much debt makes it very difficult for new graduates and first-time homeowners to jump into the market.
There are some tough questions you should ask and answer before jumping in with home loan help. How much will your help cost you both now and in the future? Is this the right time for your child to purchase a home? Are you giving up more than you can afford? Can you continue to meet your own needs now and still maintain a comfortable retirement in the future? Are you prepared for the possibility of never seeing the money again? Do you intend your help to be a gift or a loan?
If you are planning to gift the funds, you can give $15,000 (in 2020) per year to your child without it counting against your lifetime gift-tax exemption. If your child is married you could give up to $60,000 in a year ($15,000 from you to your child and $15,000 from you to their spouse, plus $15,000 from your spouse to your child and $15,000 from your spouse to your child’s spouse). The advantage of a gift is that it does not add to the child’s debt burden, and therefore, should not hurt the child’s chances of qualifying for a loan. However, you probably need to make sure the gift is given long before your child tries to buy a home, as some banks want to make sure the money is not a loan, which will affect their debt-to-asset ratio.
If the funds are a loan, be sure to fully document the note. You should have your attorney review the note to be sure it is legal and that it includes all the necessary information including the repayment terms, the interest rate, and the consequences if the note is not repaid timely. The note must include a reasonable interest rate or risk being reclassified as a gift by the IRS.
There are a few more options to consider including co-signing a loan, having a shared-equity arrangement and setting up a rent-to-own plan. Keep in mind that co-signing a loan should only be done if you are confident your child has stable employment and can meet their mortgage payments. You may be on the hook for the mortgage payments if your child fails to make them, negatively affecting your standard of living and potentially impacting your retirement plans. Be sure to consult your attorney if you decide to go the route of rent-to-own or shared equity to be sure all legal contingencies are covered and to help mitigate your risk in the event anything goes wrong.
Please contact your Henry+Horne advisor with any questions.
By Pamela Wheeler, EA, MST, CSEP