Loan Agreement Between Family
"Bank of Mum and Dad (BOMAD)" is a phrase used when children are borrowing money from family to buy a house, but lending money from a family member can also include grandparents and siblings.
The question is whether it is a loan and not a gift, in which case you would need a legally binding loan agreement, or if it is a gifted deposit. When lending money to a family member, the loan agreement needn't have a volume of clauses, so you may even choose a Simple Loan Agreement, which is legally binding and enforceable if the borrower refuses to pay you back.
Is it a good idea to borrow money from family?
In this article, we explain how to work around problems when borrowing money from family to buy a house. If you're not getting a mortgage from a traditional lender and using the money from a family loan instead, this counts as a private mortgage from a family member. In these situations, what is most important is that you have a written loan agreement between family members to protect both the borrower and the lender.
Homeownership can last for a long time, and relationships can change. The lender may need the money back and there may even be an argument over whether it was a loan in the first place or a gift.
We can structure your loan agreement for a fixed fee of £399 INC VAT
Is the loan a Regulated Mortgage Contract?
In some instances, for loans secured on a property, the agreement can be a Regulated Mortgage Contract under The Financial Services and Markets Act 2000.
The Financial Conduct Authority (FCA) provides a more detailed explanation of what a Regulated Mortgage Contract is here - PERG 4.4 What is a regulated mortgage contract?
When borrowing money from family, where the loan is secured over land, and there is a minimum interest rate of 2% or more, then the obligations of the lender are more onerous such as:
- Using a Consumer Credit Act compliant loan agreement
- Providing the borrower with an annual statement of interest and payment received;
- Notifying the borrower of changes in interest rates or payments due under the contract or of other matters of which the contract requires him to be notified; and
- Taking any necessary steps to collect or recover payments due under the contract from the borrower.
A loan between a family isn't normally a money-making opportunity or forces a family member to agree to onerous terms. Most Mums and Dads simply want to see their money returned from the sale of a house, or not allow an unmarried partner to claim the loan. If you are looking to make a loan for investment purposes to make a return, you're more likely to need a more robust loan agreement that is potentially a Regulated Mortgage Contract. The borrower may even need independent legal advice regarding the terms of the loan to avoid any disputes in the future.
Can I give my daughter an interest free loan?
As we've seen above, having a high interest rate makes a loan agreement between family members more complicated, with the need for regulated loan agreements. Luckily, there is no minimum interest rate that you need to charge, so you don't have to charge interest at all. It may be that you are happy to just get the amount borrowed back in an interest free loan to family.
However, if you do decide to charge interest, something to consider is inflation and how it will affect the value of the money you lent. For example, if you get a family loan agreement with a repayment term of 10 years, the value of the capital repaid will be worth less by the time that term expires. This is why family loans are often written down in a loan contract and with an interest rate linked to the Retail Price Index (RPI).
A further consideration on the interest applicable when making a loan agreement between family is that lending money to a family member has tax implications.
- Get up-to-date property tax advice on SDLT, CGT, IHT, Personal versus partnership versus company structure.
- Free 15-minute initial consultation with a qualified accountant from our panel of tax advisors.
- Ask your tax questions and get guidance on what you can do next.
- If there is some further accountancy work required, then you'll be quoted for this as a separate piece of work with no obligation to purchase.
How much money can I loan to a family member?
There is no limit to how much you can lend, but you must be aware of the risks. It is recommended you only lend as much as you can afford. For a private mortgage from family member, the risk increases.
Family loans can be tricky, as you might not wish to charge interest or enforce the loan terms, but a badly protected loan can result in a family rift. It's best to get a professional to draft your parent to child loan agreement, as they can help you clearly define the terms and conditions of the loan.
Are you lending money to family to buy a house?
We can help add all of your intentions into a loan agreement. You can review and confirm the intentions to be drafted into the loan agreement, as well as do one free revision before signing.
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When is the loan to be repaid?
Loan agreements between family members are difficult to repay early if they are tied to the sale of a house to get the loan repaid. Can you afford to be repaid in 10 years' time? Most loan agreements are repayable on sale, or if the borrower defaults and the terms of the loan agreement are breached, on a court order for sale.
If the loan agreement allows for repayment on a monthly basis, then you may find the first charge mortgage lender is not happy with this. If there is no mortgage, the other consideration is whether the borrower can afford to satisfy the monthly repayments.
To avoid Inheritance tax implications, you should think about an 'on demand' repayment but this has risks for the borrower. On-demand quite literally means "must be repaid on the demand of the lender". In practical terms, it is highly unlikely the loan could be repaid on demand without the homeowner having to sell their property to get the loan repaid.
Can the loan be repaid early?
Most loan agreements allow for the early repayment of the loan to the family member. The loan agreement should allow for the borrower to repay the loan early.
Will the mortgage lender allow it?
If the borrower is also getting a first-charge mortgage, then that lender must agree to the loan. Some mortgage lenders won't agree to additional funding from a loan agreement between family members.
You should speak to your mortgage lender and see if they will agree to offer you a mortgage if you are also securing funds through a loan agreement between family members.
Do I have to pay tax if I borrow money from family?***
Interest
Income tax is payable at the prevailing rate on interest on peer to peer loans.
Inheritance Tax
Inheritance tax shouldn't be ignored when assessing the tax implications for a loan to family. From an IHT perspective, if the loan is repayable on demand, then the value of the lender’s estate is exactly the same before and after the loan is made and prevents the loan from being treated as a ‘transfer of value’ which may be subject to IHT.
The asset's value when assessing IHT remains the same as the original loan. Any increase in the debt, such as income or penalties, falls outside of the deceased lender's estate.
| Lending money from family? £399 INC VAT | Borrowing money from family? £399 INC VAT |
Caragh is an excellent writer and copy editor of books, news articles and editorials. She has written extensively for SAM for a variety of conveyancing, survey, property law and mortgage-related articles.
