The 'bank of mum and dad’ has had strong press coverage recently, suggesting that parental funding arrangements account for around £5bn of financial support for property purchases.
The tax impact for both children and parents of such arrangements can vary considerably, and this is mainly dependent on how the funds are provided. The tax position needs to be balanced against the intentions of parents. Do they intend to make a loan or a gift? Do they want part ownership of the property, or do they want the funds ‘protected’ from their children?
Lending the money
Parents could opt to take the simple route and lend the money. If they do so, they will need to consider whether they take a formal charge on the property or whether there is a separate loan agreement.
From a tax perspective, if the children pay interest to the parents, the parents will need to pay tax on the interest income. In such cases it is worth considering which parent makes the loan (preferably the one with the lower tax rate) or whether a joint loan is appropriate.
Parents should bear in mind, if they have borrowed money, perhaps against their own home, that it is unlikely that they will get any tax relief for the interest they pay; meaning that if children simply cover their parents’ interest costs, the parents could still be worse off after tax.
There may be opportunities for parents to finance such arrangements in a more tax efficient way, for example by drawing money from their business or from a buy to let property where, in some cases, tax relief for the interest they pay may still be possible.
Jointly buying the property
Some parents may consider joint ownership of their property with their children, which may provide them with a little more security over their investment, but this can come with greater tax costs.
For example, if they already own their own home, the part purchase will mean that they are buying a ‘second property’ under the new stamp duty land tax (SDLT) (or land and buildings transaction tax (LBTT) in Scotland) rules, attracting a 3 per cent additional tax charge on the whole value of the property.
In addition, they will face the possibility of capital gains tax on their portion of the property if the property has gone up in value when it is sold. Their child, who occupies the property, should have main residence relief to cover any gain on their portion.
Buying the property via a trust
It may be possible to have a more secure arrangement without the SDLT/LBTT and capital gains tax downsides by acquiring the property in trust. While this could avoid the additional 3 per cent SDLT/LBTT charge and provide full main residence relief, advice around the type of trusts for legal and other tax reasons is essential.
Parents who do not take advice when helping their children get on the property ladder could potentially find themselves with tax problems that neither they nor their children were expecting; it is therefore important to carefully consider how the good intentions should be carried out.
If you would like to discuss these issues in more detail, please contact Gary Heynes or your usual RSM adviser.