It’s not uncommon for our clients to want to assist their children get into the property market. Particularly in our major capital cities, we all know that prices are at levels that make it very difficult to accumulate an appropriate deposit and be able to service the level of debt required.
Usually parental assistance into the property market is achieved through a gift, a lump sum of money to supercharge the deposit. Sometimes, parents might go guarantor on a loan, with all the risk this entails.
Recently I’ve been working with some clients who have a slightly different take on how they would like to help their kids. In the medium term, they do want to be able to assist their children to get into the property market. But in the short term their priority is about helping them transition from living in the family home to becoming independent adults.
In a lot of places around the world, when children go to university, they leave the family home and start their independent existence. That doesn’t happen so much in Australia, at least for those who live in metropolitan areas. But this idea of a transition to independence is something that the parents I’m working with feel would be beneficial for both of their children, and something they are keen to facilitate.
Now an obvious solution would be for the parents to subsidise the rent on an apartment for the children when they attend university. But our clients are thinking that’d prefer to use that rent money to instead pay off an asset, and they’re in a financial position where they could make that work.
Long term, somehow or other this property is to be used to help the children buy their long term home. Presumably it will be sold and the profits split between them. But how best to structure things now? Should the parents simply buy the property in their own name? Should the kids names also be on the property? Or perhaps this is a situation where a trust might be of use. These are the questions we researched, and so I thought I’d share some of the findings with you in this week’s podcast.
I might start by clarifying the transaction contemplated. For reasons of privacy and also practicality around what we can cover in a podcast, I’ve changed and simplified some of the facts.
What we want to happen is that a property, probably an apartment, is purchased in the next six months or so. The couples oldest child would live in the property, perhaps with a housemate to pay some rent. Their child would pay minimal rent whilst still at university. Likely this would increase once they began their career.
The oldest child would continue to use the property for three or four years and then it would be the younger child’s turn to have use of the property whilst they are at university.
When both children no longer require the property, the expectation is that it will be used in some way to assist both children buy a home of their own.
Ownership Options
We’ve identified 3 ownership options that could be relevant here.
- The parents simply buy the property in their own names
- The property is purchased with the parents and the children’s names on the title
- The property is purchased within a trust.
Let’s think about the pros and cons of each. I should caution that these pros and cons are based on my professional experience and research. It’s totally possible that specialist tax lawyers or legal advisors might have other items to add. As always, keep in mind the information contained in this podcast is of a general nature only and you should always obtain advice specific to your circumstances before making any significant financial decisions.
Option 1 – The parents simply buy the property in their own names
The number one attraction with this approach is with respect to simplicity. The parents have complete control, they don’t need their children to sign any documents, they don’t need to get any financial information from them for the purposes of doing the loan application, and similarly should the property be sold down the track they can handle it quite simply between the two of them.
By simply holding the property in the parents name it also provides greater flexibility to adapt the strategy should circumstances change. Perhaps one of the children ends up with an addiction problem or a partner who is a financial leech. Maybe they end up going to a university in a different city or even country and so the anticipated initial use for the property evaporates. It‘s said that change is the only constant. With that in mind simplicity of ownership has a real value.
This simplicity also extends to minimising the potential for family conflict. I have seen with close friends of ours, siblings ending up being completely estranged because the parents gifted them a property to share with the best of intentions, but then the siblings having different views and goals and not being able to former consensus on what should happen with the property. Had the parents simply owned the property from the outset, they could have sold it, split the proceeds, and each adult child in this family could move ahead doing their own thing without any need for tension and conflict.
Finally, owning the property in the parents name only, in this case at least, is likely to give the best outcome with respect to negative gearing. The parents income is higher than the children’s, and it’s likely to stay that way for a considerable amount of time. The parents therefore can make far better use of any negative gearing benefits.
So they’re the arguments for buying solely in the parents name. But there is one downside of this approach that we identified. At some point the purpose of the property is to help the children enter the property market in their own right. Most likely, this is achieved by selling the property and splitting the proceeds. By having the ownership in the parents name they will be entirely responsible for any capital gains tax liability that occurs upon the sale of the property, and given they are relatively high income earners, this cost is not insignificant.
Option 2 – The property is purchased with both the parents and the children’s names on the title
The first thing to contemplate here is the age of the children. Are they adults or still minors? If adults, then this option is certainly a viable one. But if they have not yet turned 18, it could be quite challenging on a number of fronts. For one, it’s highly likely that the bank will have issues with a minor being involved in a property loan. Even assuming you don’t have them on the loan, if they are on the title of the property then they would need to give permission for that property to be used as security for the loan, and doing that as a minor would be challenging to say the least. You’ve also got the punitive tax applied on minors to further complicate matters.
But let’s assume that the children in question are all over 18 years of age. The good thing about getting them on title is that it gives them a sense of ownership, responsibility, and perhaps reason for optimism in terms of their long term ability to have a secure roof over their head.
It also means that when the property is sold, the capital gains will be split across all the owners, and if it’s the case that the adult children are on lower incomes than their parents, quite possible given they will be in the early part of their career, then this should lead to a lower overall capital gains tax bill.
The drawbacks to this approach are largely the inverse of the benefits mentioned in option one. For anything to happen with the property, all the owners, parents and children, need to agree. Any formal documentation such as contracts of sale and loan applications will need to be in everybody’s name and have everybody’s details. If it’s the case that one of the adult children decides to go and live overseas for a period of time, or even interstate, that could lead to delays and headaches. Future relationships, especially potentially a divorce, could also make things challenging.
Option 3 – The property is purchased within a trust
In this scenario a family trust is established with the parents controlling the trust via corporate trustee. All members of the family could be beneficiaries of the trust. At some point in the future the parents would hand over control of the trust to the children, who would simply become the directors of the trustee company.
An attraction with this approach is that initially the parents have full control. But there is a mechanism to transfer control to the children that doesn’t trigger a capital gains tax or stamp duty assessment. Of course if the children then decide to sell the property a capital gains tax liability will be triggered at that point.
This trust structure does solve several of the challenges with the previous two options. There are drawbacks however. For one you have the cost incurred in establishing the trust, and then the trust will need an annual tax return done each year, incurring further accounting costs. It also serves to make the entire transaction more complex. Obtaining the loan will certainly be more difficult, and it’s very likely that the interest rate applied to the loan will be higher than if it was simply in your personal name. It is also the case that the ATO is currently cracking down on the use of family trusts where families are endeavouring to use them as a way to minimise their tax unfairly. So it’s possible that by going down this path you are opening yourself up to tax office scrutiny.
Using a trust to achieve the goal of the parents buying a property for the ultimate benefit of their children is certainly an option worth evaluating, just ensure you can satisfy yourself that the additional costs generated through this extra complexity are worthwhile incurring.
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