What happens to a loan from parents when adult children divorce?

Wednesday, 12 April, 2017

Are you are a parent in a position to financially assist your married child?

If so, it may be important to clarify, and to document, whether the money is a gift or a loan.

Unfortunately, almost half of Australian marriages do end in divorce.

Formally documenting your understandings as a legally binding agreement will help to limit future conflict and misunderstanding if your child's marriage or de facto relationship ends.

It will help to ensure any money you loaned is repaid and also to protect your child from taking on more than their fair share of the debt in a property settlement.

Family loans often rely on good faith

Family loans are often verbal, unsecured and unrecorded, or at best scratched out on paper or vaguely referred to in emails or texts.

Few are formally documented. Most are reliant on the trust relationship between the family members involved.

Examples of such loans include:

Parents helping their child and their partner with a deposit to buy their first home
Siblings help each other out for short term emergency loans
Parents lending money to a child to assist them with legal fees
Members of a family investing in a new business or joint investment projects within the family.

"Gifting" a loan to help with house financing

With housing affordability in Australia at record lows, many parents are stepping in to assist their children in meeting deposit requirements.

Rose De Rossi, Director and experienced finance broker with Diversifi, North Perth, Western Australia, says, "many parents want to help their child at the outset of the relationship to secure their future with an investment in the property market."

To help meet tightened lending criteria some parents will sign a Statutory Declaration stating the money is a gift even though the intention and unwritten agreement within the family may be that it is a loan.

"Confirming the deposit as a gift improves the recipients borrowing capacity," said Ms De Rossi.

Ms De Rossi advised that parents and their children should consider devising a suitable exit strategy to protect all parties in the event of a relationship ending, or the couple selling up and cashing in on the initial investment.

Gifts and loans in Family Law

Blood is thicker than water as they say and this is seldom truer than when divorce, children or money are involved.

In acrimonious breakups, sometimes parents who did actually gift funds to their child or the couple, are reluctant to allow an estranged partner to derive any ongoing benefit. They try to reclaim the money from the couple's joint asset pool, possibly with the intention of regifting it to their child at a later date.

The Divorce Resource Facebook page often fields questions from parents, whom having legitimately lent money, which they anticipated would be repaid when the couple's financial situation improved, expect to be reimbursed from the joint asset pool of the divorcing couple before the remaining balance is allocated.

Many parents are surprised to learn (when it is already too late) that unless there is a formal written loan agreement, with a detailed repayment schedule in place, funds received from family, especially from parents to their child, are considered as gifts and not loans when a matter goes before the Family Court.

With this in mind, an arrangement between the parties of the nature Ms De Rossi described, with a legal declaration in existence, would be particularly difficult to argue in court as anything other than a gift if a recalcitrant ex-spouse refused to honour the family's verbal agreement.

The importance of legally binding documentation

Parents who give their kids money which they expect to be repaid in the future, particularly in the event of a separation, should draw up a legally binding agreement stating the intention of all parties at the time of lending; an 'exit strategy' as Ms De Rossi suggests.

The document may not guarantee repayment, but it will substantiate the existence of a legitimate debt with documented repayment terms.

If you're a parent who has already informally loaned money to family, you are advised to formalise and document the conditions of your arrangement, including the repayment schedule, as soon as possible.

You may elect to continue without regular repayments on the loan while the relationship between your child and their spouse is stable. The repayment terms could be, for example, on the sale of property, when a particular milestone is reached, at the property settlement date in the event of a divorce, or for interim instalments from the time of a separation.

The terms can be totally flexible to reflect your intentions, but for it to be legally binding, each party to the agreement must take independent legal advice before signing.

Of course, to do this retrospectively would require buy-in from your child and ideally, their partner. So, an agreement for funds loaned or given some time ago may stir up some ill feelings in a relationship that is already rocky. It may be worth rocking the boat. At least you will have something in writing.

Getting your money out of a property settlement

Where a formal loan agreement exists, if repayments fall due and are not met, the lender must follow up with a written demand or a formal offer for a new repayment schedule.

If it's a relationship breakdown that sets the debt repayment in motion, parents may feel demands from them only add pressure in an already stressful and emotional time, and elect to let the repayments slide. However, it is crucial they pursue the matter in an unemotional, business-like manner, and in writing. Not doing so will be detrimental to proving the legitimacy of this type of loan. And, that could turn out to be costly with even more stressful consequences in the longer term.

Although this article focuses on loans centred around purchasing property, there are many other reasons parents loan their children money and where the amounts are of a material amount, these loans should also be documented.

Where the loan amount is significant, parents should consider taking legal advice about registering their position as a third party to the property settlement.

If you have a quick question regarding the family law implications of loans within the family, post your question to the newly launched Family Law Help Facebook page.

What is Property Settlement and what's included?
Finding a lawyer and seeking legal advice
What is full and frank disclosure?

Written by, Christine Weston
Published by Divorce Resource

The information in this article is general in nature and should not be interpreted as either legal or financial advice. You are advised to seek the advice of registered experts.

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