There is no denying things are tough for first-home buyers, particularly when it comes to saving for a deposit.
So it’s not surprising many 20, and even 30-somethings, are asking the bank of mum and dad to lend a hand by going guarantor on their home loan. While these types of arrangements are extremely helpful for first home buyers, they are not without risk to the guarantor.
For parents facing this decision, it’s critical to first consider all your options. A monetary gift to cover the deposit could be a better option. In most cases 10 per cent of the purchase price is sufficient to allow the borrower to qualify for a loan on their own. This option is suitable for parents who are in a strong financial position or who are not comfortable providing a guarantee on a property they will not live in.
If you have more than one child, it’s important to consider their expectations. Are you setting a precedent for the future? Your ability to borrow decreases by acting as a guarantor, which could affect your ability to provide the same assistance to other children.
Your child has really only experienced a world with record low interest rates, so before signing on any dotted line you need to make sure they appreciate, and can accommodate, the impact even a small increase could have on their budget. If the total loan is $400,000 with an interest rate of 4.75 per cent, an interest rate rise of two per cent could mean an additional $500 per month – that’s an extra $30,000 in repayments over five years.
If you do decide to go guarantor you need to be clear about the conditions of your agreement and your expectations over the life of the loan. And if you’re talking repayments, to help ensure your financial security, it might be a good idea to set up an automatic repayment schedule via bank transfer.
Discuss an exit strategy with your child. It might also be worth seeking advice from your financial adviser. You may only have to act as guarantor for the first few years. As the value of the property increases and your child pays down their loan, you might be able to take a step back.
Insurance could save both you and your child financial hardship should they suddenly lose their job, have an accident or become ill. Consider requesting your child organise income protection insurance and review other insurances as a condition of you signing the loan.
We all want to help our children but protecting your wealth and assets should be the first priority with any financial decision.
Dianne Charman is a financial adviser at AMP.