- - Thursday, September 22, 2011

Record-breaking low interest rates and relatively more affordable housing should be the formula for a spike in home buying, but not everyone can take advantage of this buyer’s market.

Young adults often lack the savings for a down payment because they may not have been working for long, and some cannot qualify on their own for a mortgage. Some parents are opting to help their adult children get into the real estate market by giving them cash for a down payment, co-signing a home loan or arranging a rent-to-own scenario.

Whether this is a good idea depends on the individuals involved.

“Helping your kids buy a home can be a good idea, but with a lot of caveats,” said Barry Korb, a certified financial planner and president of Lighthouse Financial Planning in Potomac. “Most important of all, you need to be able to afford this without hurting your retirement savings in both the accumulation phase and the withdrawal phase.”

Mr. Korb said people often have difficulty distinguishing between a lump sum of money and their cash flow. For example, if someone has $1,000,000 in a retirement portfolio, he or she may think it will be easy to give the kids $30,000 a year to pay their mortgage.

“The parents may wake up one day and realize that half their portfolio is gone if they aren’t careful,” Mr. Korb said. “You need to make sure you are not putting your own house at risk or delaying saving for your retirement or purchasing long-term care insurance because you are helping your kids.”

Kelly Campbell, a certified financial planner and president of Campbell Wealth Management in Alexandria, said parents who want to help their offspring buy property should proceed with caution.

“First, when you decide to give away money, you have to make sure you can afford it,” Mr. Campbell said. “You need to put this decision into your financial plan and ask yourself, ‘If I give my kids $10,000 or $50,000, will it affect me negatively later on?’ “

Larry Rosenthal, a certified financial planner and president of Financial Planning Services in Manassas, Va., said he has seen some success stories in the past few years but also some disasters when parents have helped their adult children buy a home.

“The bottom line is that this is a case-by-case scenario,” Mr. Rosenthal said. “The parents need to know that their kids are financially stable. If they have to borrow for a down payment or for the mortgage payment, then they may not be ready to buy yet. On the other hand, it can be a wonderful opportunity if a young couple wants to stay in a home for several years and they can afford to make the mortgage payments and build equity.”

Mr. Campbell said parents need to realize that if their adult children have not repaid loans in the past, they should consider carefully whether to help the children now. At the very least, the parents should get all financial arrangements in writing, even within the family.

Parents who have adequately funded their own retirement and are confident their adult offspring can handle the responsibility of homeownership need to think carefully about the best way to provide assistance for a purchase.

One of the simplest ways to help someone buy a home is to give him or her a cash gift for the down payment and closing costs. The IRS allows an individual to give $13,000 to another individual tax-free each year, so a married set of parents conceivably could give as much as $52,000 to a married couple as long as each check is written separately.

“Even if you are giving the money as a gift, I think you should put everything in writing so that there are no misunderstandings between the parents and the kids and other relatives,” Mr. Campbell said. “If you are making a loan, it should be legal, with interest paid and some kind of repayment schedule. You should also have in writing what the consequences are if the loan is not repaid.”

Mr. Campbell said parents always can forgive the loan later on if they think they can afford it.

“Parents should be very clear about their expectations,” Mr. Campbell said. “If the kids sell the home for a profit in a few years, should the parents get some of the profit if they helped with the down payment? This is something that should be in writing from the very beginning.”

A rent-to-own arrangement is another option, but this should be done with an attorney’s help to cover the contingencies.

“If the parents want to buy a home, they can rent it to their kids and then give the rent back to them as a credit toward buying it later,” Mr. Rosenthal said. “Another option is for the parents to own the house and just charge a lower rent to help the kids. Then, later, the kids can buy it from their parents or the parents can rent to someone else or sell it if the kids don’t want it.”

Parents and their adult offspring also can choose a shared-equity arrangement. In this case, a written agreement would be necessary to determine how much equity each person has in the home and who gets the tax benefit from the mortgage interest payments and property taxes. A shared-equity plan can include split mortgage payments or just a split of ownership based on the down payment and mortgage.

“A shared-equity arrangement can work sometimes, but it can be terrible if the kids who are living in the home want to move, get transferred or lose a job,” Mr. Rosenthal said. “The parents could get stuck holding the bag that way.”

Another option is for the parents to co-sign a loan, but this could be dangerous for the parents’ credit score and their ability to get new credit if the children default on the loan. If the parents are confident about their children’s financial stability and future income, co-signing a loan is less risky.

“Real estate is great as long as you can make the payments, but if the owners are not prepared to make those payments, it may not be the best idea to co-sign their loan,” Mr. Campbell said. “If you choose to co-sign, you should find out from the lender how your name can come off the loan, such as after a certain number of on-time payments or perhaps after the loan balance drops.”

Parents with available cash also can lend the entire mortgage to their offspring. The adult children would have the benefit of a mortgage without needing to qualify with a lender, and the parents could earn interest on the loan, which may be more than they could earn from a certificate of deposit or savings account. Mr. Campbell said this arrangement should be made with the help of a lawyer and a settlement to make sure the loan is properly documented.

In addition to helping adult children with money, Mr. Korb recommended that parents educate their children about having a financial plan and the risks and rewards of homeownership.

“It’s important that the kids understand that they shouldn’t buy a home unless they plan to live in it for a long time,” Mr. Korb said. “They need to be prepared with some emergency cash reserves, and they need to have the money for maintenance and repairs. Parents should talk to their kids about the true cost of homeownership.”

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