Parents wanting to provide financial support for their children don’t always clarify whether the money is a gift or a loan and so end up with informal arrangements that often unravel when relationships, finances or ownership structures change.
What's on this page?
Problems usually emerge years later, after a separation, bankruptcy or death, when the lender assumes their money was protected and discovers it was not, and the practitioner’s file does not clearly show who was advised, what options were discussed, or what instructions were given.
The risk in practice
The parents raise the issue of providing financial assistance with the practitioner and just want it ‘documented’ but are not clear about the arrangement and don’t want anything too formal. The practitioner is often also asked to act for the child in the purchase of the property that the parents are helping to buy, creating a conflict situation.
Problems usually emerge years later, after a separation, bankruptcy or death, when the lender assumes their money was protected and discovers it was not, and the practitioner’s file does not clearly show who was advised, what options were discussed, or what instructions were given.
Claim exampleThe parents lent money informally to their son to buy a property with his de facto partner. The couple also borrowed money from a bank which had first mortgage security for the purchase. The couple were registered as joint proprietors. A few years after the parents lent the money, the son and his de facto separated. The parents were concerned the loan was not formally secured so they instructed the practitioner to document the loan. The practitioner prepared a simple loan agreement that was signed by the parents and their son but not his ex-partner. The agreement included a charge over the property in favour of the parents, and the practitioner lodged a caveat over the title “pursuant to loan agreement” claiming an estate in fee simple. The practitioner undertook a title search that showed the son and his ex-partner were joint proprietors. However, he did not think about severing the joint tenancy and failed to advise the parents on the implications of how the property was held. When the son died, the property passed by survivorship to his ex-partner who was not a party to the loan agreement. The parents’ caveat lapsed as the son’s interest in the property had ceased, leaving the parents without security and no further recourse on the loan. The practitioner was focused on preparing what he thought was a straightforward agreement. However, he needed to step back and give more thought to the potential risks for the parents and what was necessary to properly protect their interest. |
What to do
Identify the parents as clients at file opening and confirm in writing to the clients you are acting for them and not their child.
If the child is unrepresented you may need to tell them you are not acting for them and recommend they obtain independent legal advice before agreeing to anything.
Provide the LPLC’s client brochure Parent to child property… - Legal Practitioners' Liability Committee at the first meeting or with the cost agreement. The brochure explains in plain language the pros and cons of gift and loan arrangements and will supplement the oral advice referred to below.
Discuss with the parents the difference between a gift and a loan. Consider the following points.
The relevant contracts or long-term leases to which GST withholding applies are contracts for:
1. Identify the parents as clients at file opening and confirm in writing to the clients you are acting for them and not their child.
2. If the child is unrepresented you may need to tell them you are not acting for them and recommend they obtain independent legal advice before agreeing to anything.
3. Provide the LPLC’s client brochure Parent to child property… - Legal Practitioners' Liability Committee at the first meeting or with the cost agreement. The brochure explains in plain language the pros and cons of gift and loan arrangements and will supplement the oral advice referred to below.
4. Discuss with the parents the difference between a gift and a loan. Consider the following points.
a) If it's a gift.
b) If it is a loan, that they will want to enforce and recover the money.
- There needs to be a formal written loan agreement.
- Any provisions in the loan agreement need to be complied with, such as the payment of interest or repayment of the capital on time or renegotiated and confirmed in writing. (See Enforcing loans matters… - Legal Practitioners' Liability Committee for more information on this.)
- If the loan expires and the parties don’t want it repaid, they need to enter into a new written agreement. It should not be left to lapse.
- Security for the debt needs to be registered on title, preferably a first mortgage.
- If a second mortgage is the only option, there may be difficulties getting it registered if the first mortgagee does not consent and there may not be enough equity left to secure their loan.
- If the security property is owned by their child and their domestic partner, the domestic partner should also be a party to the loan and any security arrangement.
- The loan should not be advanced until the loan and security documents are finalised.
c) Will this financial assistance affect the terms of the parents’ wills.
5. Confirm the advice given in a letter of advice.
6. After meetings or calls where risks, security or scope are discussed make a file note of what was discussed and send a written summary confirming:
a) the advice given
b) the client’s response
c) the instructions received.
7. Treat this matter as you would any arm’s length transaction and, subject to the client’s instructions:
a) include appropriate clauses in the loan agreement for repayment terms, default interest, if any, review mechanisms and enforcement pathways
b) ensure the security documents are registered on title
c) follow the Family loan checklist.
