I want to help my (adult or young adult) kids (or grand kids) financially without just giving them money.
Have you ever thought this? Have you wanted them to still have some accountability or teach them to manage some debt without it being such a burden to them? This is something we hear and get challenged with all the time. As a parent, it’s normal to juggle the desire to help your kids financially, with the desire to instill the value of financial independence. We all know of someone who gave their kids everything…but when the time came for the child to spread their wings, they didn’t have the skills to fly on their own.
An alternative to just handing money over, is to fill a need by “playing the bank”. If you are in a position to do so, this can be a great way to help your child, while also giving them the gift of accountability – something that will continue to serve them well throughout life. The goal is not to force debt on them, but to identify with a need they may have or an opportunity. Some of the areas we have helped families facilitate this are:
• Refinancing high interest rate student loans
• Financing the much needed new car
• Providing the mortgage for the new home
In these situations and many others, the “family bank” can offer much better terms than the actual bank. One of the best parts is the flexibility of terms that can be offered. There are still some minimum “must dos” that you need to consider, and many options for execution.
Let’s talk about some of the minimum “must do” considerations:
• Interest rate: In this scenario, we find that parents and grandparents want to charge interest. There are cases where you don’t have to. In the case that you do and perhaps have to, the IRS publishes monthly Applicable Federal Rates (AFR). These are there to serve as the minimum level of interest to charge, you can always charge more. If you look these up (https://apps.irs.gov/app/picklist/list/federalRates.html) , they are much lower than your typical bank rates.
• If you are providing a mortgage, in order to retain the tax deductibility of interest for your child or grandchild, you must work with an attorney to draw up the mortgage and record it with the county. If it is not recorded, then interest is not deductible.
• There are other areas of consideration like enforceability in court or inclusion with your estate plan, which would require you to have an attorney draft the loan note. You need to be cognizant of all implications before jumping into the “bank” role.
Other than that, you do get a lot of flexibility in choosing the rest of the terms. Some of the terms and conditions you’ll want to consider include:
• Length of payback period
• Interest only versus principal and interest payments, etc.
• Flexibility of Due dates
• Fees and penalties (or lack thereof) for late or missed payments
• Special clauses for early payoff or refinancing options
Here are a couple of examples of terms we have set up for families over the years:
• Mortgage: 30 year mortgage, with a 9 year balloon payment, using the mid-term AFR (which at the time was less than 2%). This one worked well knowing that the kids were most likely going to move again in 9 years. So in theory they could sell the house and pay off the mortgage. What if they didn’t move? Simply “refinance” the mortgage to a term that fits the situation.
• Student Loans: Refinanced student loans that charged 6-8%, to a fixed rate of less than 2.5% and a fixed 15 year term.
There are so many examples and options that come to mind but like anything else the terms need to fit the situation and be unique to your situation.
Intrigued? You should start by reaching out to your advisor to discuss the specifics of your situation and develop the terms that suit you best.
Does “playing the bank” sound like something you would like to do for a family member, but you aren’t currently working with an advisor? You’re welcome to contact our team and set up some time to discuss your situation and consider your options.