7 considerations when applying to the Bank of Mum & Dad
Unless you are lucky enough to have hundreds of thousands of pounds hidden down the back of a sofa, you will need a mortgage to buy your first home. While banks and building societies will lend you most of the money required to purchase a property, the buyer will always need to contribute a cash deposit.
The industry standard for a deposit is 10% and based on the Nationwide’s August House Price Index, which put the UK’s average house price at £273,751, buyers will need to have saved £27,375. Those wishing to access the best rates of mortgage interest will need to put down a bigger deposit – we’re talking upwards of £50,000 – but even first-time buyers accessing 5% mortgages will need a deposit of £13,688, based on the average house price.
With such sums involved, it comes as no surprise that first-time buyers are relying on close family members to help reach their deposit goals. Irreverently known as the ‘Bank of Mum and Dad’, cash contributions from parents and even grandparents are on the rise. In fact, an estimated £25 billion is expected to be lent to children over the next three years, with almost half of all first-time buyers having to rely on family to fund part or all of their deposit.
Applying to the Bank of Mum & Dad sounds simple on the surface but there are a few considerations before any money passes down the generations, as we outline:-
- Be careful of anti-money laundering laws
Lenders adhere to strict anti-money laundering rules so all deposit funds will need substantiating and the sudden appearance of a large sum of money into an account can be a red flag. It’s wise to check your lender’s deposit terms and conditions – some won’t consider cash that’s been gifted by family at all, while others insist the money must come from a parent and no other relative.
- Using a parent’s property as deposit power
Parents can raise a lump sum as a deposit by using an equity release scheme. Although lenders will accept this method more willingly than a personal loan, we strongly recommend independent financial advice before engaging in any equity release activity. Alternatives that involve a parent’s property include remortgaging to release equity or taking out a second charge mortgage.
- Loan to loan: more expensive in the long run
Not all parents have access to a deposit-worthy sum of cash and they may use a loan themselves to raise the funds. It’s possible to take out a personal loan of up to £25,000 and although there is cash at the end, parent’s will be repaying the loan over a number of years, with added interest. Defaults or late payments can blemish a parents’ credit record, and it’s worth noting that many lenders will not accept deposit money that’s been raised by a personal loan – even if it’s the parents who are the borrowers.
- Possible downsides of the payback
It’s also possible for parents to lend their children money for a deposit by creating their own loan agreement using cash they already have. Even this type of loan needs declaring to the mortgage lender and they will take the repayments from the child to the parent into account when working out borrowing affordability. Some lenders will consider the parent to have a vested interest in the property by way of an unpaid loan, and may refuse the mortgage on these grounds.
- The gift of giving: read the small print
If the Bank of Mum and Dad is in a position to gift cash towards a deposit, the lender will need a statement verifying the origins of the contribution. A ‘gifted deposit’ letter drawn up by a solicitor and signed by a witness should suffice, as long as it details:
- the name of the property buyer(s)
- the name(s) of those gifting money
- the sum of money that’s being gifted
- confirmation that the cash does not need repaying
- a statement that the gift has no commercial interest
- confirmation that the person gifting the money has no financial or commercial interest in the property being bought
- confirmation that the person gifting the money is financially solvent and in a comfortable position to give the gift
- Tax implications: the 7 year itch
There is no upper limit to how much a parent can gift a child when helping with a deposit but only lump sums of up to £3,000 are free of inheritance tax. Work the sums efficiently, however, and the Bank of Mum and Dad can gift £12,000 in one go by carrying over each of their personal ‘gift allowances’ saved up over two years. Should the gift exceed personal allowances and the person providing the cash dies within seven years of their gift, those in receipt may have to pay inheritance tax.
- Using cash to offset risk
Some parents with savings may be reluctant to gift cash in case they need it themselves but there are ways to make a lump sum work in their child’s favour. Parents can become a guarantor on their children’s mortgage, using their cash as security, or the child can take out a family/offset mortgage. This involves a parent’s savings being held in an accessible account, and the money is used to reduce the interest paid on the mortgage.
With property prices and mortgage rates open to fluctuation, the Bank of Mum and Dad will continue to play a part in first-time buyer deposits. Before any money changes hands, both parties should always seek advice from an independent financial advisor.
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