Risks for the bank of mum and dad

Giv­en the way prop­er­ty has moved over the last few years, prices hav­ing increased by up to 30% in some areas, young peo­ple have found it increas­ing­ly dif­fi­cult to enter the prop­er­ty mar­ket.

Some­times, in addi­tion to their own resources, banks will impose con­di­tions upon young prospec­tive bor­row­ers that entail them turn­ing to the bank of mum and dad.

Par­ents are able to assist their chil­dren get­ting into the prop­er­ty mar­ket in a num­ber of ways includ­ing by:

1.       pro­vid­ing funds; and

2.       pro­vid­ing a guar­an­tee

If you are in the posi­tion where you have insuf­fi­cient spare funds to be able to pro­vide assis­tance to your chil­dren, then the rest of this arti­cle prob­a­bly isn’t rel­e­vant.  How­ev­er, if you are being called upon to pro­vide a guar­an­tee, then it will also be the case that you will be called upon to pro­vide a mort­gage over your prop­er­ty.

A per­son­al guar­an­tee is a promise made by one per­son (per­son one) that anoth­er per­son (per­son two) will meet their finan­cial oblig­a­tions to per­son three and if per­son two doesn’t, then per­son one will pay per­son three.  Usu­al­ly, a per­son­al guar­an­tee also includes an indem­ni­ty, which means that per­son three has the ben­e­fit of a promise from per­son one that they will not suf­fer any loss by rea­son of per­son two’s fail­ure to pay.

Guar­an­tees (and indem­ni­ties) are usu­al­ly sup­port­ed by a mort­gage over land.  In the case of bank of mum and dad, that usu­al­ly means the fam­i­ly home.

Most of us are aware that if you fail to pay your mort­gage then the lender has cer­tain rights to enter the mort­gage prop­er­ty, recov­er it from you and then sell it in order to repay their debt.

The same applies when grant­i­ng a mort­gage to sup­port a guar­an­tee.  If your chil­dren do not pay their loan oblig­a­tions and you are unable to meet any demand made by the lender fol­low­ing that default, then the lender will be enti­tled, under the terms of the guar­an­tee and the mort­gage, to enter and recov­er pos­ses­sion of your prin­ci­pal place of res­i­dence (if that is what’s been mort­gaged) and sell it.  They can do so even though they may also have that same right in rela­tion to your children’s prop­er­ty.  In oth­er words, your prin­ci­pal place of res­i­dence, if that is what you have mort­gaged, is at risk.  They can use the funds to pay the debt plus, any inter­est, fees and charges payable under the loan.

Lenders almost uni­form­ly now insist that par­ents giv­ing a guar­an­tee and mort­gage in respect of their children’s finan­cial oblig­a­tions must obtain inde­pen­dent legal advice.  The rea­son for that relates to the case from the 1980s in which elder­ly Ital­ian migrants with lim­it­ed Eng­lish skills, lit­tle for­mal edu­ca­tion, and lit­tle busi­ness expe­ri­ence, were asked to guar­an­tee their son’s busi­ness loans.  The busi­ness went bust and the bank sought pay­ment from the elder­ly par­ents.

The court found they signed the doc­u­ments in cir­cum­stances that the court found were uncon­scionable and as a result, the lender in that instance was unable to enforce the guar­an­tee and the mort­gage.

In order to avoid alle­ga­tions of uncon­scionable con­duct, lenders have since insist­ed that peo­ple obtain inde­pen­dent legal advice in those cir­cum­stances.  Please note, the lenders are not doing that for the guarantor’s ben­e­fit, but rather for their own.

Guar­an­tors are asked to obtain inde­pen­dent legal advice so the bank is con­fi­dent the guar­an­tee and mort­gage will be enforced against them.  The guar­an­tor can­not say they did not under­stand the oblig­a­tions they were under­tak­ing and that the cir­cum­stances sur­round­ing the grant of the guar­an­tee and mort­gage were not uncon­scionable.

Accord­ing­ly, we strong­ly advise clients in these cir­cum­stances to ensure:

1.       they know the risks — they can lose their home;

2.       they under­stand the nature of the oblig­a­tions they are assum­ing — to pay if their chil­dren don’t; and

3.       they are doing so vol­un­tar­i­ly with full knowl­edge of the finan­cial cir­cum­stances and the risk they are assum­ing.

The prac­ti­cal effect of the above is that in addi­tion to legal advice, guar­an­tors should also obtain finan­cial advice so is to ensure that they under­stand all of the finan­cial cir­cum­stances sur­round­ing the par­ties they are guar­an­tee­ing.

Parental love is strong, and par­ents always want to do the best they can do for their chil­dren, but they should not do so reck­less­ly. 

If you are ever called upon to give a guar­an­tee for a loved one, please call Hadyn Ori­ti, Dono­van Oates Han­naford on 6583 0449 for fur­ther infor­ma­tion.

For Further Information Please Contact