Don’t let kids’ ‘dreams’ become parents’ ‘nightmares’

The Bakersfield Californian
December 11, 2011

Boomers are increasingly helping their children and grandchildren become homeowners, according to a recent nationwide survey commissioned by Better Homes and Gardens Real Estate.

Through more than 1,000 interviews, researchers found one in five boomers has already gifted, loaned or co-signed a loan to support their children or grandchildren in purchasing a home. More than two-thirds of the respondents said they planned to give this type of support in the future.

No doubt several economic factors are driving this trend: A persistent recession has diminished the earning capacity of a new generation of first-time homebuyers. Home prices have plunged to record lows. Interest rates on loans also are very low.

In a nutshell: The housing market – including in Bakersfield, where the November median sale price of single-family houses was $131,500 – is a bargain-hunter’s dream. But regrettably, many young first-time buyers lack the down payment for a loan or have poor credit scores that disqualify them for loans. Their parents and grandparents do not want them to miss out on the good deals, so they agree to help.

Time after time, I hear the same stories from my boomer retirement planning clients: They want for their children the same thing that they wanted for themselves: the American dream of homeownership. They want me to help them find a way to stretch their incomes and investments to meet their retirement needs and to help their children.

Questions about helping adult children buy real estate also frequently are asked during the retirement planning classes I teach for the Levan Institute for Lifelong Learning at Bakersfield College. See www.BakersfieldCollege.edu/LevanInstitute for information about my January class.

There are no easy answers. With a big gulp, I usually respond with my own question: Should you help?

First and foremost, can you afford to help? Will you be pulling money out of retirement funds to help with a down payment? Will helping your children endanger your ability to support yourself in retirement?

I know to some, those questions might sound selfish. But in the long run, your inability to provide for yourself in your later years likely will be a burden on other family members, including the “youngsters” you may be trying to help buy a house today.

And even if you can afford to do so, is providing help the right thing to do? By loaning or gifting a down payment, or co-signing a loan for a young couple that lacks the income or credit scores to qualify for a mortgage, you may be compounding existing financial problems.

You may be helping place this young couple in a house that they really cannot afford to buy. If they are struggling financially, should they be tied to a house? They may need the flexibility to move around for better career opportunities.

Before deciding to help, parents and their adult children must have an honest, open conversation about finances. Why can’t the young couple qualify for a loan? What other debts do they have? Can they make the monthly mortgage payments?

If you are satisfied by the answers and decide to help, carefully consider how you will help.

  • Co-sign a loan. This is an arrangement where you agree to add your name to your child’s mortgage. My advice: DON’T. There are many reasons why you should not co-sign any loan – for a house, car, boat, etc. – for anyone, including your children. The loan will be based on your good credit. If your child defaults, you are responsible for the payments and you may take a hit on your credit score. If something goes wrong, you will legally have to share the responsibility. Can you afford that?
  • Lend money. Commonly parents will loan money to their children for a down payment. This arrangement, including payment and interest schedules, should be delineated in a written contract. Such a loan may jeopardize the child’s ability to get a loan. Lenders will regard a loan as a debt when qualifying a home buyer.
  • Lease-to-buy. Some parents will buy a home and lease it to their child. Assuming you can afford to buy another house, contact a real estate lawyer to draft a contract that specifies payments, lease-to-buy provisions and other arrangements. Circumstances can change. The child may lose his or her job, or get divorced. Even in families, financial deals should not be left to a hand shake.
  • Give a gift. A “simple” gift has fewer drawbacks. Often parents will “gift” a down payment or closing costs. IRS rules allow individuals to give $13,000 tax-free to another individual each year. How this can work: Parents – a mother and father – can each give $13,000 to their son and his wife for a total of $52,000. Often lenders will require borrowers to provide a “gift” letter, specifying that the money for the down payment, for example, will not have to be repaid. Proof that the money exists – a canceled check, or account showing a deposit – also may be required.

Lending money to your children can be a heart-warming demonstration of affection. But it is also a business transaction that requires caution.